by
Vera Felber, Director
Lighthouse Trust
and
Stephen E. Speiser, Attorney at Law
The Speiser Law Firm, P.A.
Introduction
It is not often that a state legislature will enact two sets of laws which make certain actions both lawful and unlawful at the same time. Such, however, may very well be the case with the adoption of both the Uniform Voidable Transactions Act (“UVTA”) and domestic asset protection trust (“DAPT”) legislation by Michigan and Utah, which became the first two states to adopt both UVTA and DAPT statutes in 2017.
In essence, the UVTA provides that transfers of assets which frustrate collection efforts of present and future judgment creditors can be set aside. Conversely, DAPT statutes generally provide that the transfer of assets to a self-settled spendthrift trust, which frustrate the collection efforts of present and future judgment creditors, may be lawful.
Regardless of whether a state adopts one or both statutes, the fact remains that successful asset protection planning requires an understanding of the tensions and interplay between the provisions of the UVTA and the objectives of various states in enacting DAPT legislation. This article evaluates the inherent conflicts between both types of legislation, with particular focus on certain commentary in the UVTA that draws into question the underlying premises of the UVTA’s approach to asset protection planning.
Voidable Transactions
Voidable transactions are a fundamental concept in asset protection planning. To appreciate how the international asset protection trust has evolved as a shield against voidable transaction liability, one must understand the elements of a “voidable transaction” and how the UVTA can be applied in a variety of settings.
In general, a “voidable transaction” is a transfer of assets made with the actual purpose or constructive result of denying a creditor access to the assets. Once a creditor establishes that a transfer was voidable under the UVTA, the creditor is entitled to a number of remedies. These include the possibility of reversing the transfer or suing the transferee for the value of the transferred assets.
The Relevance of Intent
Because the actual intent to hinder, delay, or defraud creditors is seldom susceptible of direct proof, the UVTA contains a list of “badges” of fraud. These badges of fraud are basically red flags telling the world that most likely someone acted with the specific intent of defeating a creditor. The weight given these badges varies greatly from jurisdiction to jurisdiction, and the Uniform Law Conference sought to minimize or eliminate this diversity by providing that proof of certain fact combinations would conclusively establish fraud. In the absence of evidence of such facts, proof of a fraudulent transfer would instead depend on evidence of actual intent.
Section 4(a)(1) of the UVTA expounds upon this further: A transfer made or obligation incurred by a debtor in which the transferor actually intends to deprive the creditor the ability to reach the transferred asset is deemed prejudicial to both present and future creditors. This means that, not only can the people who you owe money come after you, but even an unanticipated future creditor can look to set aside a transfer of property that you made some time ago.
Asset Protection Planning
Asset protection is a term used to describe legal planning that shields your assets from the unanticipated claims of creditors. Because the UVTA seeks to deter many forms of transfer that are to the detriment of creditors, there is an inherent conflict between voidable transaction law and asset protection planning. Official Comment 2 specifically addresses this conflict by stating that asset protection planning, such as setting up a self-settled spendthrift trust, is in and of itself evidence of actual intent to avoid a creditor, without regard to whether the transaction is directed at an existing or identified creditor. Thus, the creation of an asset protection trust (DAPT) is a per se “actual intent” voidable transaction under the UVTA.
Several states have enacted domestic asset protection trust (DAPT) laws, permitting people to create self-settled spendthrift trusts that are ostensibly enforceable in their courts. Official Comment 2 weighs in on the impact of such legislation, holding that a state asset protection trust law will override the principle that asset protection planning constitutes an “actual intent” voidable transaction.
Even in those states that have enacted a domestic asset protection trust law, the scope of transferors who can avail themselves of asset protection planning without having “actual intent” imputed to them is quite limited. Comment 8 provides a series of examples illustrating how the residency of the debtor influences whether “actual intent” may be imputed.
- Creation of DAPT in State Where One Resides
Suppose a debtor residing in Wyoming creates a self-settled spendthrift trust, which is expressly permitted under Wyoming law. As Comment 8 explains, a transfer of assets to the DAPT by itself cannot be considered voidable because the Wyoming legislature, by authorizing asset protection trusts, “must have expected them to be used.” Thus, the creation of the trust itself cannot be used to impute “actual intent” to commit a voidable transaction under Section 4(a)(1).
- Creation of DAPT in State Where One Does Not Reside
a. Debtor Resides in Non-DAPT State
What happens where a debtor, residing in a state that does not recognize DAPTs, creates a DAPT in a state that does? For example, what would happen if a resident of Florida, a state which does not have an asset protection trust law, creates a Wyoming DAPT?
Comment 8 refers to Section 10 of the UVTA, which dictates that the law of the debtor’s residency would apply to govern the transaction. Thus, the transfer of assets into a Wyoming asset protection trust would be governed by Florida law. In the eyes of the Commission, a transfer of assets to a Wyoming DAPT would constitute per se “actual intent” and would therefore be voidable under Section 4(a)(1).
b. Debtor Resides in DAPT State
What would happen where a debtor residing in DAPT State “A” forms a trust in DAPT State “B”? Assume, for example, a debtor residing in Wyoming decides to settle a Delaware asset protection trust, which is expressly permitted under Delaware law. Does the per se “actual intent” rule render the transaction voidable in this context?
The plain text of Comment 8 suggests only that the Wyoming state legislature contemplates the use of its own asset protection trust legislation; the comment is silent on the use of another state’s legislation. Accordingly, there are four potential inferences that can be drawn:
- A narrow inference that the Wyoming DAPT is the exclusive means by which asset protection planning is permitted by the Wyoming legislature;
- A moderate inference that use of a Delaware DAPT for asset protection planning would be permissible, provided Delaware’s DAPT legislation is substantially similar to Wyoming’s DAPT legislation;
- A broad inference that asset protection planning in this context is permissible, and therefore the use of a sister-state’s DAPT is permitted by the Wyoming legislature; and
- A maximum inference that, by authorizing the use of a DAPT, the state legislature intends that per se “actual intent” not be imputed in any form of asset protection planning whatsoever.
If we apply a broad inference, then the use of a Delaware DAPT by a resident of Wyoming should be permitted. By contrast, if we construe the inference in a narrow manner, then the use of any other state’s asset protection trust law would not be protected from the consequences of §4(a)(1) and its per se “actual intent” rule.
If we adopt the moderate inference that use of another state’s DAPT law is permissible, then we must further ask whether it is sufficient that Delaware recognizes self-settled spendthrift trusts, or whether Delaware’s statute must match Wyoming law point by point. Moreover, what if the Wyoming resident settles a Belize or Nevis asset protection trust, where the trust laws may be similar but other aspects of the legal system (e.g., non-recognition of foreign judgments) are radically different?
The UVTA commentary offers minimal guidance in divining the intent of a state legislature that sanctions the use of in-state asset protection trusts. Yet, some of the most popular domestic asset protection trust jurisdictions are states with low populations and a palpable desire to attract trust and banking business from out-of-state residents. Alaska and Delaware became the first two states to enact laws recognizing the enforceability of self-settled spendthrift trusts, explicitly promoting their use by out-of-state residents. Wyoming is not terribly different. If, for example, Wyoming intends that out-of-state residents be able to avail themselves of asset protection trusts within the state, is it reasonable to infer that Wyoming does not object to its own residents being able to avail themselves of the benefits of Alaska or Delaware asset protection trust law?
In Favor of Maximum Inference
We believe that the appropriate inference to be drawn is the maximum possible inference: That a state’s enactment of a DAPT law should be regarded as the state legislature’s expression per se “actual intent” under the UVTA not be imputed in any form of asset protection planning. While this is an incredibly broad inference, it reflects the reality that DAPTs do not exist in a vacuum.
In order to engage in proper DAPT planning, it is often essential and customary that the DAPT be integrated with underlying or associated entities, such as LLCs, corporations, foundations, and a variety of sub-trusts. Many times, direct transfers are made to these subsidiary or affiliated structures in lieu of transfers in trust, whether for convenience or out of necessity.
A creditor has a compelling incentive to rely on the UVTA commentary to assert that the direct transfer to the underlying or associated entity is a per se “actual intent” transfer not protected by the state’s enactment of a DAPT law. A creditor may also interpret the UVTA commentary to argue that, while the DAPT itself is protected, satellite holdings by the DAPT are not similarly protected. This creates an unworkable conflict between DAPT legislation and the UVTA. We think the better argument is that, by authorizing DAPTs, the legislature has discarded the UVTA’s per se “actual intent” rule for all forms of asset protection planning.
Given that most states do not have DAPT legislation, Comment 8 raises the possibility that the legislative intent behind Section 4(a)(1) may not be entirely consistent among the states. Because the laws of different jurisdictions differ in their tolerance of creditor-thwarting devices, choice of law considerations may be important in interpreting Section 4(a)(1) in a given jurisdiction. This runs counter to the purpose of a uniform law, and it suggests that the UVTA commentary is not at all synchronous with the state legislatures that have enacted DAPT legislation.
The Analog of Limited Liability Enterprises
Under the UVTA, engaging in asset protection planning through the creation of a self-settled spendthrift trust is per se “actual intent,” which renders voidable asset transfers in those states that do not have an asset protection trust law. Does the per se rule apply to the use of other asset protection and liability limiting devices? For example, every state openly permits the formation of a limited liability company in order to shield against unanticipated future creditors of the business. Is the mere act of forming of an LLC voidable under Section 4(a)(1)?
Comment 8 tells us that the transfer of assets to capitalize an LLC is not per se voidable under Section 4(a)(1). According to the Commission, the state legislature – by enacting a comprehensive LLC law – must anticipate that the LLC will be used in “ordinary circumstances.” The commentary goes on to define “ordinary circumstances,” offering the example of a group of entrepreneurs organizing and capitalizing a new LLC when they do not anticipate personal liability or financial distress. The negative implication is that if those same entrepreneurs were to reorganize an existing business as an LLC under clouds of personal liability or financial distress, the reorganization would be arguably voidable under Section 4(a)(1).
As the name suggests, the limited liability company aims at limiting liability to cut off potential creditors. This is no different than creating an asset protection trust at a time when there are no known creditor issues. Nevertheless, the formation of a limited liability company is not considered a per se transaction performed with “actual intent” to avoid potential creditors, whereas the formation of an asset protection trust is.
It is noteworthy that the commentary to the UVTA does not focus on the residence of the owners when forming a limited liability enterprise. Consider a group of New York residents who contemplate forming an LLC and avail themselves of Delaware law in order to limit their creditors to a charging order as the sole remedy. Should the New York UVTA be applied to treat capital contributions to the Delaware LLC as per se actual intent fraudulent transfers? By availing oneself of another state’s LLC law, does one more closely resemble the individual who sets up an out-of-state asset protection trust?
Reconciling the Differences
The disparate treatment between asset protection planning and business entity planning evades simple reconciliation. The most sensible conclusion is that the per se actual intent rule should not apply to any structure or legal protection that is authorized under the laws of one’s state of residence. The formation of limited liability business entities is blessed by statute, as are domestic asset protection trusts in many states.
Unfortunately, the UVTA commentary does not look beyond the broadest categories of legal planning. Since LLCs are creatures of statute, one may avail oneself of an LLC without triggering the per se actual intent rule. At the same time, there is no clear guidance if the LLC owners avail themselves of another state’s LLC statutes for greater or different protection. The UVTA commentary indicates that a resident of a non-DAPT state should not be permitted to benefit from setting up a DAPT where authorized in another state, but does that mean that forming an out-of-state LLC should also be considered evidence of per seactual intent?
The UVTA presents an unworkable ambiguity: Should a Tennessee resident be charged with actual intent by forming an asset protection trust in Delaware rather than her home state? Should a New York resident be charged with actual intent by forming an LLC in Nevada rather than New York? Should the courts of Wyoming regard ALL forms of asset protection planning as exempt from per se “actual intent” under the UVTA merely because the Wyoming legislature has enacted a DAPT law? In our view, the per se actual intent rule yields incongruous results if a vague desire to shield assets from potential creditors triggers its application.
It is noteworthy that the language of Section 4(a)(i) references a “creditor”: The statute presumes an existing creditor whose presence gives rise to the “actual intent” driving the debtor to engage in the voidable transaction in the first place. However, if the debtor is not actively engaged in avoiding a known creditor, then the same legal result should entail whether the debtor is engaged in asset protection planning or starting up a limited liability enterprise. Put more bluntly, the UVTA commentary should scrap the per se actual intent rule for DAPTs and instead rely on the traditional facts-and-circumstances analysis to detect a voidable transaction when a debtor is engaged in trust or LLC planning.
In the meantime, residents of non-DAPT states would be well advised to focus on the use of in-state LLCs in lieu of DAPTs if there is an express need to keep the planning domestic. If the LLC laws of one’s state of residence are not sufficiently protective, though, then a foreign asset protection trust (FAPT) offers a viable solution: While FAPT planning may be regarded as per se actual intent, the negative consequences of a voidable transaction under the UVTA normally do not have any bearing whatsoever on a properly-established FAPT, the assets of which should be held beyond the reach of a court in any UVTA jurisdiction.
By equal measure, in the context of LLC planning, residents of DAPT states who wish to form an out-of-state LLC may wish to consider utilizing an in-state DAPT to hold the out-of-state LLC membership interest. This takes advantage of the inference, argued above, that the enactment of a DAPT law may be a legislative green light to engage in a broader set of transactions that serve an asset protection planning purpose, all of which may be arguably exempt from the per se “actual intent” rule of the UVTA commentary.
Conclusion
The legal landscape for domestic asset protection planning is chaotic under the UVTA. It is impossible to expect consistent rulings among the fifty states concerning whether the use of a DAPT is a per se “actual intent” fraudulent transfer given the many possible variations discussed herein. Moreover, the UVTA commentary draws into question the viability of using out-of-state LLCs for business planning, much less as a device for asset protection.
Treating asset protection planning as evidence of per se “actual intent” to deprive the creditor of the opportunity to reach the transferred asset is a highly fact-intensive, “I know it when I see it” argument that is no less suspect than LLC planning. As a result, it is impossible to truly define legal behavior when the legal standard could change at any time based on the person’s perspective.
At a minimum, residents of states that do not provide for DAPTs should instead rely on the LLC as a potential planning vehicle. By using an LLC formed in the same state in which one resides, the per se “actual intent” rule no longer applies. If one seeks to go out of state to avail oneself of greater trust or LLC protections, then it may be safer to go out of country altogether and select a jurisdiction that is indifferent to the claims of creditors brought against a trust or LLC established in that jurisdiction.