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Asset Protection Trusts: Trust Law's Race to the Bottom?

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Asset Protection Trusts: Trust Law's Race to the Bottom? Cornell Law Review Volume 85 Article 3 Issue 4 May 2000 Asset Protection Trusts: Trust Law’s Race to the Bottom Stewart E. Sterk Follow this and additional works at: http://scholarship.law.cornell.edu/clr Part of the Law Commons Recommended Citation Stewart E. Sterk, Asset Protection Trusts: Trust Law’s Race to the Bottom , 85 Cornell L. Rev. 1035 (2000) Available at: http://scholarship.law.cornell.edu/clr/vol85/iss4/3 This Article is brought to you for free and open access by the Journals at Scholarship@Cornell Law: A Digital Repository. It has been accepted for inclusion in Cornell Law Review by an authorized administrator of Scholarship@Cornell Law: A Digital Repository. For more information, please contact [email protected]. ASSET PROTECTION TRUSTS: TRUST LAW'S RACE TO THE BOTTOM? Stewart E. Sterkt INTRODUCTION Stephan Jay Lawrence had a problem. An MIT graduate, a suc- cessful options trader, and a major player on national securities ex- changes, Lawrence faced financial ruin in early 1991 as a result of the margin deficit his firms had generated on Black Monday, October 19, 1987.1 Although Lawrence's personal assets remained substantial, he had been mired for forty-two months in an arbitration proceeding over the size of his margin deficit.2 His prospects in the arbitration apparently looked bleak, and an unfavorable award would wipe out his personal fortune.3 Lawrence addressed his problem by transferring, on January 8, 1991, between four and seven million dollars-ninety percent of his assets-to a trust in Jersey, Channel Islands,4 ajurisdiction whose trust law is known to be unfriendly to creditors.5 Less than a month later, Lawrence further amended the trust in order to transfer it to the even more debtor-friendly Mauritius, an island nation located on "the 6 other side of the world." On March 15, 1991, the firm Bear, Stearns & Co., Inc. (Bear, Stearns) -Lawrence's adversary in the arbitration proceeding-was awarded over twenty million dollars.7 Now Bear, Stearns had a prob- t Mack Professor of Law, Benjamin Cardozo School of Law, Yeshiva University. The author would like to thank David Carlson, Joel Dobris, Katy Filner, Myriam Gilles, Melanie Leslie, and Chuck Yablon for helpful comments on earlier drafts, and Kara Savid for inval- uable research assistance. 1 See Goldberg v. Lawrence (In re Lawrence), 227 B.R. 907, 911 (Bankr. S.D. Fla. 1998). 2 Seeid. 3 See id. at 912. 4 See id. at 912-14. 5 See Marine Midland Bank v. Portnoy (In re Portnoy), 201 B.R. 685, 699 (Bankr. S.D.N.Y. 1996) (detailing the history ofJersey trust law, and particularly the 1989 amend- ment which reversed the prior law that held that a gift into trust was fraudulent with re- spect to creditors if the settlor retained the power to dispose of the assets transferred into trust); PAUL MATrHEWS & TERRY SOWDEN, THE JERsEY LAw OF TRUSTS § 5.46, at 65 (3d ed. 1993). 6 In re Lawrence, 227 B.R. at 912 n.11 (noting that "Mauritian law appears to be even more 'debtor-friendly' than [the law of] the Jersey Channel Islands" and that "Mauritius has the added benefit of its location-the other side of the world"). 7 See id. at 911. 1035 1036 CORNELL LAW REVIEW [Vol. 85:1035 lem: How could it collect even part of its award when legal title to Lawrence's assets rested in the hands of a trustee with no connections to the United States and with offices on the other side of the world, in a country whose trust law imposes criminal penalties on any person, including the trustee, who discloses information about a Mauritius trust?8 Stephan Lawrence's efforts to avoid his creditors-euphemisti- cally called "asset protection planning" by its practitioners-have be- come increasingly common in recent years.9 Although determining with any precision the value of assets that debtors have transferred offshore to avoid creditor claims is nearly impossible, conservative esti- mates exceed one trillion dollars.' 0 One lawyer, prominent in the as- set protection business, represents that his firm alone has clients with more than three billion dollars in asset protection trusts." Asset protection trusts have not been limited to major players in the financial world. Lawyers have marketed offshore trusts to physi- cians and other professionals as protection against malpractice judg- ments or divorce claims.' 2 Furthermore, as a recent Ninth Circuit case illustrates, con men have used offshore trusts to stash their gains in entities beyond the reach of the investors they have defrauded.' 3 Entrepreneurial lawyers and professional trustees, like those who rep- resented Stephan Jay Lawrence, have recognized that trusts need not be localized entities and that a settlor can avoid onerous regulations by locating the trust in a more favorable jurisdiction.' 4 To the extent 8 See id. at 912 n.l1. 9 Indeed, the industry has spawned its own journal, the Journal of Asset Protection, which has published four volumes to date. 10 See Debra Baker, Island Castaway,A.B.A. J., Oct. 1998, at 54, 55 ("Experts estimate that $1 trillion to $5 trillion is currently being held offshore."); David D. Beazer, The Mys- tique of 'Going Offshore' UTAH BJ., Dec. 1996, at 19, 19 (estimating that $5 trillion pass through offshore financial centers). 11 See Asset Protection Trusts: What You Need to Know Now, BCD News and Comment, Nov. 18, 1997, availablein LEXIS, LEGNEWS Library, ALLNWS file (statement of David L. Lockwood, a principal in Engel, Reim & Lockwood PC). 12 See, e.g., Deborah Grandinetti, Protect YourAssets-Set Up a Trus, Ma. ECON., Apr. 26, 1999, at 80, 80; see also Riechers v. Riechers, 679 N.Y.S.2d 233, 235 (Sup. Ct. 1998) (describing how a physician created a Cook Islands trust, allegedly in response to malprac- tice lawsuits and later contending that the trust assets were unavailable to his wife in di- vorce proceedings). Indeed, a leading proponent suggests that asset protection planning is appropriate for individuals with a liquid net worth of $1,000,000 or perhaps as little as $500,000. See Roundtable Discussion, 32 VAND. J. TRANSNAT'L L. 779, 797 (1999) (state- ment of Barry S. Engel). 13 See FrC v. Affordable Media, L.L.C., 179 F.3d 1228 (9th Cir. 1999). For an ex- tended discussion of the landmark Affordable Media case, see infra Part III.A.4. 14 See, e.g., Pierce H. McDowell, III, Trust Forum Shopping: The Next Generation, TP. & Esr., Aug. 1997, at 10, 14: In today's shrinking world of high speed travel, wire transfers, video conferences, facsimiles, electronic mail and families spread across the globe, it has become apparent that it is not nearly so important to choose 20001 ASSET PROTECTION TRUSTS 1037 trust assets, such as cash or securities, are intangible, only legal fictions enable us to assign a physical location to the assets. Moreover, even if the assets are tangible and fixed in a location, like real property is, no legal rule prevents a trust situated in one state from holding property located in another. Entrepreneurial states have begun to take advantage of the mo- bility of trusts by creating legal regimes designed to attract trust set- tlors from other states.15 The leaders in the competition for trust business have been offshore jurisdictions, such as the Cook Islands, Belize, and the Bahamas. 16 Recently, several American states have be- gun to compete aggressively: Delaware' 7 and Alaska' 8 enacted statutes that make it substantially easier for a trust settlor to shield assets from potential creditors. The competition, however, has extended beyond asset protection statutes. Several states, including Alaska and Dela- ware,' 9 have eliminated long-standing limitations on the duration of trusts, permitting the creation of "Dynasty Trusts" which can last for- ever.20 Montana has enacted provisions that will permit foreign trust the trust institution down the street as trustee. In fact, to do so may be negligent. But seeJoel C. Dobris, Changes in the Role and the Form of the Trust at the New Millennium, or, We Don't Have to Think of England Anymore, 62 ALB. L. REv. 543, 558-59 (1998) (observing the "'invasion' of outsiders"-brokers and out-of-state institutions-into the world once dominated by local bankers). 15 The popular press has noted this competition. See, e.g., Carolyn T. Geer, Is Your Trust Well Placed?, FoRBEs,June 16, 1997, at 190, 190 ("[C]ompetition is heating up among states eager to attract trust business."). 16 SeeJames T. Lorenzetti, The Offshore Trust: A ContemporaryAsset ProtectionScheme, 102 Com. LJ. 138, 140-43 (1997) (listing Cook Islands, Cayman Islands, Bahamas, Gibralter, Turks & Caicos Islands, Bermuda, Nevis, and Belize as popular offshore jurisdictions); Elena Marty-Nelson, Offshore Asset Protection Trusts: Having Your Cake and Eating it Too, 47 RUTGER S L. REv. 11, 62 (1994) (listing the "Bahamas, Belize, Cayman Islands, Cook Islands, Cyprus, Gibralter, and the Turks and Caicos Islands" as popular offshore jurisdictions). 17 See DEL. CODE AmN. tit. 12, §§ 3570-3576 (Supp. 1998). The legislative history ac- companying the 1998 amendment to Delaware's Qualified Dispositions in Trust Act in- cludes the following statement: The Act is intended to supplement the existing provisions of the Quali- fied Dispositions in Trust Act, 12 Del. C. § 3570 et seq., to enhance the dispositive and administrative options available to trust settlors and to trust- ees of existing trusts. These new features should make Delaware a more attractive jurisdiction for establishing trusts that are protected, under cer- tain defined conditions, from claims of a settlor's creditors.
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