Trusts & foundations: Articles

Asset protection structures are legal entities with a long history dating back to the wars of the Middle Ages.

Asset protection structures are legal entities with a long history dating back to the wars of the Middle Ages. They are intended to hold assets 'in trust' against some future requirement. Most often this is to benefit your children or grandchildren, but they can also hold assets for institutions and charities, like a school or college for example.

Under British law these structures are called 'trusts', in European civil law they are 'foundations'. In North America they are commonly referred to as trusts or 'fiduciaries'. Which structure you choose will depend partly on your personal circumstances, and partly on the legal system you are most comfortable with. For a wealthy individual with assets in a variety of jurisdictions, they can be useful in the circumnavigation of tax and legal obstacles that might face your estate.

Asset protection structures can hold a broad range of assets, ranging from money to property, to a business. In effect they function as a separate legal entity to which you 'entrust' these assets for safekeeping.

Trustees

A trust structure is governed by a board of 'trustees' or a 'trust company' set up to look after the trust's assets. In the case of a simple interest-bearing bank account, this is relatively simple, but it can be a much more difficult job if an entire business enterprise is transferred to their safe-keeping. Trustees can be personally appointed by you, the 'settlor' of the trust, or you can leave their appointment to a trust company.

Trust companies are entities established either independently or by a private bank to set up and manage trusts for private clients. A trust company is theoretically an independent firm that will provide ready-made trust structures, including trustees. Part of their attractiveness is that the trusts they look after will never run out of trustees, as the trust company is charged with appointing new trustees whenever the current ones retire, leave the company, or die.

Trust companies come in a variety of shapes and sizes. Some wealthy individuals choose to actually set up their own trust companies to govern the affairs of one or more 'family' trusts. Other trust companies are established by private banks for their customers. Many offshore legal firms will either own a trust company for their clients' use, or will have close ties to one or more local providers. It is worth asking your lawyer for a recommendation.

The trend recently has been for regulators in offshore jurisdictions to require local trust companies to qualify for a license. This can only be a good thing, and will serve to improve the ethics of the business. Not all offshore centres have passed such legislation, so it is worth checking to see if trusts are licensed in the jurisdiction you choose.

It is worth taking time over your choice of a trustee. After all, they may be intimately involved with your family or business affairs long after you are dead. Be warned that some trust providers will not be as thorough as others: if there are complex issues involved with your case, they may skirt over these in the interests of 'closing the deal' and earning their fee. Willingness to acknowledge ignorance, and propose the use of additional outside experts in the settlement of a trust is the mark of a professional trustee who wants to see the job done well.

Why choose an offshore trust?

Offshore trusts have been very popular over the years, and not only because offshore centres have been able to offer a low or zero-tax environment for trusts. Trusts are often set up to protect assets from the rapacity of corrupt governments, or in situations where ownership of a business or property by a 'foreign' entity will provide it with additional security in the eyes of local authorities. They can also be useful when dealing with forced succession issues, where local laws require you to distribute your assets according to a legally-enforced formula upon your death. A messy divorce case could see your spouse's lawyers trying to include trust assets in any divorce settlement.

By settling them in a trust, you can procure much more control over who inherits your wealth. In addition, should a government or individuals wish to challenge a trust in court, they must do so in the jurisdiction in which the trust is settled (domiciled). Traditionally it has proved extremely difficult to challenge offshore trusts in the local courts, partly because these jurisdictions know how important the trusts business is to their local economy. Although some challenges have succeeded, they have proved to be the exception rather than the rule.

The trust deed

The trust deed is a document you agree with the trustees which lays down how the trust will be governed, and to what purposes it is to use its assets. This is a vitally important piece of paperwork, as it will be referred to by the trustees in the future. It is difficult to cover all eventualities in such a document, but as the settlor it is worth you spending time with your legal advisors to ensure that this document is as comprehensive as possible. Experienced trust companies should be able to advise on some of the unforeseen circumstances that might face a trust during its lifetime. The complexity of the deed will largely depend on the sophistication of the assets being held in trust (e.g. shares in a company might require instructions on how their voting rights are to be exercised).

Control of the trust

Under prevailing UK law, and the legislation of many of those countries that follow the UK model for trust law (including a large proportion of offshore centres), you cannot exercise control over trust assets once they have been settled in trust. If you expect to have such control, you should not be considering a trust structure. Similarly, if you try to write some degree of limited control into the trust deed, you run the risk of a trust being successfully challenged. If a trust is set up to protect assets from factors that you are already aware of (e.g. you know you are going bankrupt and want to safeguard some of your assets from creditors), there is also a good chance it can be successfully challenged.

Challengers of a trust can be represented by litigators expert at finding flaws in trust structures ('trust busters'), so it is essential that the trust deed, and the conditions under which the trust is settled, is as watertight as possible. Any suspicion that you might still be able to exercise some degree of control over the assets can be exploited.

Specialist trusts

There are a number of different common trust structures available.

Discretionary trusts are one of the more popular types, in which the beneficiaries of the trust have no right to any of its assets unless the trustee agrees to grant them access. For example, using the example given previously, the voting rights of shares held in trust might or might not be available to the beneficiary, depending on the decision of the trustees. They will be guided by the trust deed, of course, but this can be written in such a way to permit them the flexibility to deal with changing and unpredictable circumstances.

Under the terms of a discretionary trust, the beneficiary cannot be said to have any vested interest in the trust. At best they might expect to benefit from the assets in the future. Some discretionary trusts even have the capability to add further beneficiaries in the future (perhaps you might want unborn grandchildren to benefit from your wealth, for example). Trust deeds can include a list of 'excluded beneficiaries', people who are not to benefit from the trust, sometimes for taxation or legal reasons.

Reversionary trusts have a built-clause which allows the settlor to take back the trust under certain circumstances. You need to be careful with this, as some tax authorities view trusts with reversionary clauses in their deeds as not being technically legally separate from the settlor.

A testamentary trust is one created when you die, and its creation is usually provided for in your will. Some jurisdictions look favourably on such structures, and they enjoy better tax treatment than those established during your lifetime.

Charitable trusts are designed to pass on wealth or property to worthy causes. Individuals are usually excluded from being beneficiaries of these structures, as these trusts tend to enjoy favourable tax treatment in the jurisdictions which recognise them - governments like charitable trusts as they represent a conduit for private wealth to reach poor and needy citizens. Families can often still retain some degree of 'final approval' over how the wealth is distributed, as they will not benefit materially from it.

Foundations

Foundations are the continental European equivalent of the trust. Many of them are established in Liechtenstein, a tiny yet independent principality that sits on the border between Austria and Switzerland. If you are setting up a foundation in Liechtenstein, you can ensure added confidentiality by appointing a 'nominee founder', thereby protecting the real identity of whoever set up the foundation.

The difference between a foundation and the trust structure is that the assets held by a foundation are in the name of the foundation, not the trustee responsible for them. The foundation can have additional settlor's rights that grant a higher degree of actual control over the assets. Unlike Anglo-Saxon trusts, foundations can also have unlimited duration.

Flee clauses

Some degree of flexibility is always worthwhile when it comes to settling trusts and foundations. For example, it is worth considering a 'flee clause' in the trust deed, allowing the trust to be moved to a new jurisdiction if there are any adverse developments in its home jurisdiction (e.g. changes in political stability, laws, taxes, or exchange controls). Flee clauses are triggered immediately any such change takes place, without the requirement of a signature by the trustees. A coup d'état could occur overnight, but the trust itself would automatically have migrated as soon as it happened: there would be no requirement for further action on the part of the trustees. Flee clauses are an insurance policy to protect the trust against unforeseen disasters.