Asset Protection

10.1 "KNOW YOUR CLIENT".

10.1.1 The "Know your Client" rule is already standard operating procedure in the financial services industry.  Trustees (whether onshore or offshore) will always obtain background information on proposed Clients, or insist on professional references/introductions.

10.1.2 This procedure is doubly important in relation to Creditor Protection Trusts.

10.1.3 The proposed Offshore Trustee needs to be sure that the Transfer into Trust cannot be impugned.  It must therefore be satisfied that the Settlor; 

• Is not presently subject to demands claims or legal actions from purported Creditors; and 
• Has no fraudulent intention or plan behind the establishment of the Trust.

10.1.5 In practice (and necessarily) the Offshore Trustee has to rely almost entirely on information provided by the professional intermediary (usually either an Attorney or CPA) who is acting for the Settlor, and who is introducing the business.

10.1.6 At one end of the spectrum, the Settlor will have good and legitimate planning needs.  At the other end of the spectrum, the Settlor may have an imminent lawsuit, or a divorce looming, and want only to protect against that eventuality.  One of the central issues will be the intent of the Settlor.

10.1.7 The Onshore Advisors must screen their Client carefully to see if their arc any outstanding malpractice suits, or other events such as a divorce pending. If necessary. the Advisor should obtain Affidavits from the Client on these, and other points (see Appendix 2). This information must be shared with the proposed Trustee.

10.1.8 The Trustee will thereby be able to make an informed appraisal or the situation, and satisfy itself both as to the factual background, and to the Settlor's intentions and motivation in relation to the planning.

10.1.9 A thorough Trustee will ask searching and probing questions on these issues.  If not satisfied, it should decline the business.  A normal Trustee will be very careful with its reputation, and should also have a sensitivity to the plight of Creditors.  The Trustee should not accept Trusteeship of a CPT on the basis of possible resignation later: this may be difficult, as once the Trust becomes enmeshed in litigation, it may be impossible to find a willing successor Trustee.

10.2   SOLVENCY.

10.2.1 The other central issue is the Settlor's solvency at the time of the Transfer.  This is another key aspect of the Trustee's appraisal.  To ensure the Transfer into Trust cannot be impugned, the Settlor must not be insolvent at the time of Transfer, or rendered insolvent by the Transfer.

10.2.2 In order to substantiate this, the Settlor should arrange with his/her Accountant to provide a "Certificate of Solvency".

10.2.3 As an alternative, or in addition to the Certificate of Solvency, where the Advisor provides certified copies of Affidavits received from the Client on his/her personal background these should also depose as to his/her financial status, including a clear statement as to his/her solvency at the time.

10.2.4 The Trustee might consider establishing as an internal policy a criterion that Settlors may not put into Trust more than a certain predetermined percentage of their net worth: typically around 50%, or up to 66% would be an acceptable working range.

10.3  UNITED STATES TREASURY AND TAX FILINGS.

10.3.1 The Settlor's Accountant or Tax Attorney must also assume responsibility for initial and ongoing Treasury Reports, IRS Tax filings and compliance.  This will include all Tax issues relating to creation of the Trust, and creation of any non-United States Companies, and Currency Control transactions.

10.3.2 Relevant Treasury/IRS Forms include:
 

• Form 1040, Schedule B, Part III, to report Foreign Accounts and Foreign Trusts;
• Treasury Information Return - Form 3520 - Creation of or Transfers to Foreign Trust; 
• Treasury Information Return - Form 3520A - Annual Return of Foreign Trust with United States Beneficiaries;
• Form 56 - Report of Fiduciary Relationship;
• Form 926, Return by a Transferor of Property to a Foreign Corporation, Foreign Estate or Trust, or Foreign Partnership;
• W8/W9 Reporting.

10.4.1 The Trustee must consider taking a personal indemnity from the Settlor for any and all legal costs incurred in the future in connection with the Trust.  Of course, in the event of the Settlor's future bankruptcy, the Indemnity will be of little use.

10.4.2 In addition (and of greater value), the Trust Agreement must also indemnify the Trustee out of the Trust Fund against all costs incurred in obtaining legal advice for the Trust, and/or the Trust being involved in litigation.

10.4.3 For this indemnity to be of real value, the Trust Fund must be in the hands of the Trustee and under its direct control.  Assets held in the United States, or through sub-custodians elsewhere, are open to seizure in satisfaction of the United States judgment, and be unavailable to satisfy the Trustee's indemnity.

10.4.4 This may become a very real problem in practice, if the Creditor or Trustee in bankruptcy obtains injunctions in the Offshore jurisdiction freezing the Trust Fund.  The Trustee may face having to make an application for an Order lifting the injunction to the extent of allowing the Trustee to have recourse to the trust Fund in order to pay legal fees to defend the proceedings.  If no Order is forthcoming the Trustees would have to use their personal (or corporate) assets, paragraphs 8.3.6 and 8.6.5 above refer to relevant provisions in Cayman Islands and Bahamas law.

10.5 INSURANCE COVER.

10.5.1 A possible refinement on the normal indemnity for costs etc., (10.4 above) involves the Trustees purchasing insurance cover to indemnify them from the cost of defending such litigation as may subsequently be brought by persons wishing to sear aside the Trust.

10.5.2 Upon the occurrence of the assured event, the Monies payable under the policy would belong not to the Settlor but to the Trustees.  The costs of such a policy might be fairly high, even assuming it is possible to get underwriters to quote on this type of risk, Indeed, a possible limit to growth of Offshore CPT planning may be the unavailability of affordable insurance cover against just this type of risk.

10.6   CHECK LIST.

A Check List is attached as Appendix A to this Paper, setting out in summary form the procedural safeguards referred to above.