I am often asked whether creating a trust will shield your assets from your creditors. Living in such a litigious society, many people are understandably concerned about getting sued. You may run a red light and be held liable for injuries that someone sustained. Perhaps you work in a high risk profession, such as medicine, where you are vulnerable to claims of negligence. Malpractice insurance will offer some protection against lawsuits, but what happens when the claim exceeds the limits of your insurance policy? By creating a trust, are you able to face down your creditors and prevail in a lawsuit on the basis that it is your trust, rather than you, that owns your assets?
The answer depends on what kind of trust you create. It is common for people in California to create a revocable living trust. Earlier chapters have highlighted the benefits of creating such a trust. These primary include avoiding your family having to endure a long and expensive court process after you die or become incapacitated. A revocable living trust also enables you to leave assets to your beneficiaries in a way that can protect those assets in the event that your beneficiary experiences creditor issues, a bankruptcy, is sued or gets divorced. What it does not do is allow you to shield your assets from your own creditors or those who might file a lawsuit against you.
The news is not all bad, though. Trusts come in all shapes and sizes; there are certain trusts that will provide you with asset protection.
Domestic Asset Protection Trusts (DAPTs) are one such trust. This is an irrevocable trust which some states permit and some do not. California does not, but California residents are able to establish a DAPT in states where they are allowed, such as Nevada or Tennessee. There is some doubt as to whether a California court would recognize the assets protection features of a DAPT, although this has never been tested in court. There is an argument to be made that it has never been tested because the existence of a DAPT was a sufficient deterrent to creditors that they chose not to pursue the matter through the courts.
In any event, if you are looking for the highest level of asset protection available, you will need to look offshore. Jurisdictions such as the Cook Islands have developed trust structures that are incredibly difficult for creditors to penetrate. In particular, creditors will have to be physically present in the offshore jurisdiction and navigate that jurisdiction’s legal system. This is often a sufficient deterrent to a creditor looking to access assets held in trust offshore.
So while there are excellent reasons for creating a revocable living trust, asset protection is not one of them. For those who are concerned about asset protection, though, there are options; DAPTs and offshore trusts being foremost among them.