Offshore asset protection trusts have been used by people in the United States for over 40 years. With such a lengthy track record, it is no surprise that several cases involving offshore trusts have made their way to state and federal courts. While offshore asset protection trusts provide the highest level of legal protection, as with any legal strategy, they are not infallible. However, many of the cases where the owners of offshore trusts have received unfavorable rulings in court are more complex than it may appear at first glance.

Litigation and bankruptcy proceedings often involve complicated legal issues, and when offshore trusts are involved, they only add complexity to the matters. The fact that these trusts are managed from outside the United States means that they are beyond the reach of the U.S. court system. This article will discuss why many court cases “defeating” Offshore Trusts, often are lost due to other factors such as failure to disclose trust funds or fraudulent activity.

Failure to Disclose

When a person is before a court, they are required to answer all questions truthfully and completely. The fact that a defendant has an offshore trust does not give them the right to conceal or outright lie regarding the existence of the trust. Committing perjury or failing to comply with a court order is illegal, this is well established law and has nothing to do with any asset protection solutions. This means the trust owner decided to break the law after the trust was established.

Naturally, when a defendant makes false statements regarding their offshore accounts or any other materially related matter, they will find themselves in hot water when such dishonesty is discovered by the court. This was the situation the defendants faced in the cases of In re Colburn 145 B.R. 851 (Bkrpt E.D. Va. 1992) as well as, U.S. v. Plath, 2003-1 USTC 50,729 (U.S. District Court, So. Dist. Fla. 2003).

If the court determines that the defendant made false statements with fraudulent intent, the defendant can be criminally charged for this as well. There are cases that are often cited as offshore trusts failing, when in fact what happened is the owner of the trust committed fraud by not being truthful about his or her assets.

Unfortunate Timing

alarm clock calendar wooden cubes and notebook with pencil

In other cases, critics of offshore trusts say the trusts “fail” when they were established soon before the lawsuit began. The truth is offshore trusts protect against future possible claims but are generally not meant to be used to defend against impending litigation. Normally, a period of at least one or two years is sufficient to establish that the trust was not created with malicious intent.

When a person creates a trust right before being served with a lawsuit or attempting to declare bankruptcy the court is likely to see through the pretense. This was an important factor in the case of In re Brooks, 217 B.R. 98 (D.Conn. Bkrpt. 1998), where a couple was forced into involuntary chapter 7 bankruptcy just a year later after setting up offshore trusts located in Jersey, Chanell Islands, (“Jersey”) and Bermuda.

Rather than representing a failure, these are cases where an asset protection trust is not being used for its legally intended purposes. Any existing or impending claims need to be disclosed to the trustee when establishing the trust. If any of the disclosed claims were to go to court, a newly established asset protection trust is not meant to protect against these. That is why it is important to establish an asset protection plan well ahead of time and before any legal issues appear on the horizon.

Marital Property Trusts and Divorce

Another common fact pattern of asset protection trusts “failing” are divorces cases when one spouse establishes the trust as sole grantor, but then uses community property to fund the trust. Under the law, community property consists in any funds earned by either spouse during the marriage and is considered jointly owned by both spouses. One spouse cannot single handedly convert community property into his or her separate property and the fact that they have established an offshore trust does not change this fact.

When an offshore trust is funded with community property, it will be included in the marital estate for divorce purposes. This was the result in Riechers v. Riechers, 679 N.Y.S. 2d 333 (1998). Again, this is a case of an offshore asset protection trust not being used for its intended purposes. If protection against a future potential divorce is a concern, an asset protection trust should be structured accordingly and funded using only that spouse’s separate property, which can include income earned before the marriage, gifts, and inheritance funds.

Contempt of Court

judges gavel scale books and pen on wooden table

Perhaps the most common issue in cases where offshore trusts are “defeated” is when the owner of the trust if found in contempt of court. Contempt of court is when a person willfully disobeys a lawful order or judgment of a court. If a court orders the defendant to repatriate funds from their offshore trust and they disobey, they can be found in contempt. Failure to comply with a court order can result in harsh penalties including incarceration.

In one of the most well-known cases where contempt was an issue, FTC v. Affordable Media, LLC, 179 F.3d 1228 (1999), the defendants were a trustee of their own offshore trust. To an asset protection attorney, this is an obvious problem. The purpose of an offshore trust is that the assets will be controlled from outside the United States. If the client is a trustee of their own trust, unless they decide to leave the country for good then they should not be surprised by such an unfortunate result.

In another notorious case, In Re Lawrence, 279 F.3d 1294 (2002), the defendant was using a revocable trust. This was also a problem because the court reasoned that the grantor could just rescind the trust whenever he wished and simply refused to do so. This is whey revocable trust should not be relied on for asset protection. The lessons from these “bad” cases are to make sure an asset protection trust is irrevocable, which is the standard, and that appropriate control is given up by the grantors.

If the management powers are legitimately in the hands of a third-party trustee, then the defendant should not be held in contempt because they do not have the ability to move trust funds. Similarly, a U.S. court cannot place a foreign trustee in contempt because they are located in a different jurisdiction, and generally not affected by U.S. courts. The defendant, however, must demonstrate good-faith efforts to comply with the court in repatriating the assets.

Cases of Outright Fraud

brief case full of dollar bills and handcuffs

The fact that asset protection trusts do not produce a good outcome in cases of egregious misbehavior by the settlor should not surprise anyone. Offshore trusts are not a means to break the law with impunity. Unfortunately, fraudsters sometimes try to use offshore entities to try and conceal or protect their ill-gotten gains. Not only does this give legitimate offshore trusts a bad name, but often also result in negative caselaw.

In the case of In re Portnoy, 201 B.R. 685 (S.D.N.Y. Bkrpt 1996) the debtor was accused of concealing his salary, making fraudulent transfers to his offshore trust, and trying to hide assets by selling them to his family members. These cases often combine the perfect storm of bad factors: a defendant who is often being accused of serious criminal activity, a trust that is suspect in its creation purpose, and a very motivated government entity driving the lawsuit.

Defendants in these cases are also likely to face contempt charges due to a “self-created” impossibility. If the defendant created the situation himself through a fraud and then claims he can’t get the assets back, the court will not let him go due to his role in the matter. In SEC v. Bilzerian, 131 F. Supp. 2d 10 (D.C. 2001), the court argued any financial inability to comply was self-created because the defendant had separated his assets from himself and funneled them to shell companies, partnerships, and trust entities.

The fact is cases of fraud often result in incarceration. The existence of an offshore trust is probably of little or no importance in the matter. If a defendant lies, cheats, or steals, the courts will seek a fair result that punishes illegal activities. The courts are also likely to punish defendants who claim they can no longer receive funds from the trust but then try to do so secretly by sending transfers to their spouse, children, or other related parties.

Relying on “Relocating” Asset Protection Trusts

A unique type of asset protection trust has been marketed that purport to offer the protection of an offshore trust with the ease and convenience of a domestic trust. The plan consists of setting up a domestic trust that the proponents claim can be moved offshore if there is ever an event of duress such as a lawsuit. In practice however, converting a domestic trust to an offshore trust may not be so straightforward.

The case of Indiana Investors v. Victor Fink, No. 12-CH-02253 (Circuit Court of Cook County, Illinois, Chancery Division), shows the vulnerabilities of these types of trusts. In this case, the plaintiffs were able to obtain temporary restraining orders preventing the trustees and trust protectors from shifting the control to an offshore location and the bank accounts were all frozen. The defendant might have believed he could rely on the protection of an offshore trust, but when things really mattered, he ended up with a domestic trust that was easily defeated.

Key Factors to Consider

woman picking wooden block in line

If your asset protection plan was established for a legitimate reason you should not be concerned about a court disregarding your trust or threatening you with contempt. A court order cannot try to force a person to do something that is beyond their abilities. We can see how this would be an abuse of power and lead to an unfair result and a potentially indefinite period of incarceration.

Keep in mind that offshore asset protection trusts have well defined lawful purposes and should not be used outside that scope. There is no asset protection solution that will keep you out of jail if you decide to live a life of crime. Similarly, the fact that your trust is located outside the U.S. does not mean you can lie about its existence, or conveniently forget to mention it when being requested to disclose your assets. Federal courts and bankruptcy courts can be very familiar with a variety of methods that people might use to hide away funds.

Hopefully, this article has helped you better understand the reality behind some of the unfavorable cases involving offshore trusts. Oftentimes, the facts around these cases are very complex and not just a matter of a trust failing. The main lessons behind many of these cases are to always try to be forthcoming with the courts and avoid misbehavior, whether you are in or out of the court. We can expect the results will be different when a trust is used as a plan to defraud creditors or to shelter the proceeds of fraudulent activities.

Contact an Asset Protection Attorney

At Blake Harris Law, asset protection law is our exclusive focus. Our team can help you put together an asset protection plan that will work for your legitimate purposes. If you would like to learn more about offshore trusts or would like to know if an asset protection trust can help for your situation, please contact Blake Harris Law. Protect your assets by working with us, a team focused on lawful asset protection planning. You can reach us through our contact page.