There is a misconception among the public that people use trusts to avoid tax and hide their wealth away. While the tax side could be a consideration, asset protection and succession planning have increasingly become the two driving factors behind the setting up of a trust.
During the pandemic, many of us, especially the older generation, were forced to stop and think about our own mortality and the consequential need to preserve our wealth for our children. This has inevitably been exacerbated by the Russian invasion of Ukraine, which has caused significant uncertainty and high inflation.
It is therefore no surprise that in the wake of such great geopolitical turmoil and market volatility, clients are increasingly looking at stable and credible jurisdictions such as Malta to set up asset protection trusts to cater also for succession planning needs.
Briefly put, an asset protection trust comes into existence once the assets of an individual called the settlor are lawfully transferred into a trust whereby the settlor has given up all his rights, barring a few rights allowed in terms of law. Once the trust is set up, the assets held therein are fully protected.
Asset protection trusts are typically set up by wealthy people wishing to retain financial security either because they are easy targets for creditors or in anticipation of political volatility; people wishing to protect themselves in case of potential future problems such as marital break-up, bankruptcy or illness; people wishing to preserve property for future generations; and people with high-risk jobs, just to mention a few.
The due diligence process that the trustee conducts is of utmost importance
The main attractive feature of asset protection trusts is the possibility of segregating assets from potential creditors so that they may not be absorbed to satisfy the settlor’s debts. This is essentially because the trust concept rests on the fact that the settlor who settles his property on trust no longer remains the legal owner of the same as the property will then be held by the trustee for the benefit of beneficiaries.
It is critical to underline the fact that a very fine demarcation line exists between trusts created for asset protection from future and unidentified claims by creditors on the one hand (which is legitimate) and trusts created to defraud creditors, which trusts should be immediately struck down. Accordingly, the due diligence process that the trustee conducts is of utmost importance.
Naturally the necessary searches that are carried out by the trustee can never be foolproof, and therefore the onus is always on the settlor, who should fully disclose to the trustee if it transpires that prior to the transfer of the property on trust there is a potential claim from creditors against the settlor. In the latter case, the trust can be attacked, and the property transferred on trust with a fraudulent intention, claimed back to satisfy creditor claims.
Therefore, it is in the settlor’s interest to ensure that at the moment of the setting up of the trust and the consequential transfer of property thereto, the settlor is not aware of any actual or potential claims against him, and that his intention to settle his property on trust is not to defraud his creditors.
The trustee must likewise obtain sufficient proof to demonstrate that the assets transferred do not derive from illicit activities or constitute monies due to existing creditors that the settlor is trying to hive off into a trust.
However, it is safe to say that once a trust is lawfully constituted and structured at a time when the settlor is solvent and the property is transferred with legitimate intentions, the property will be fully protected from any claims that are brought forward following the constitution of the trust.
As stated above, it is the essence of a trust that upon its creation, the settlor transfers ownership of the trust property to the trustees, and unless he has reserved certain powers for himself and/or is also a beneficiary of the trust, he loses all control and/or interest in the trust property. This is a concern that is expressed by most clients, and which is typically addressed by trust practitioners by offering the possibility of having the so-called ‘letter of wishes’.
The letter of wishes has been developed to offer settlors the opportunity to express their wishes in a non-binding form by mapping out how they wish the trustee’s discretions to be exercised. Therefore, stopping short of actual control, settlors may in actual fact guide the trustees throughout the administration of the trust by means of this letter.
This degree of guidance aids to a certain extent the trustee to strike the desirable balance between listening to what the settlor wishes to achieve while retaining complete independence in the administration of the trust, always for the benefit of the beneficiaries.
The fact that the trustee has followed the wishes of the settlor in whatever manner they were expressed does not automatically impair the trustee’s independence provided always that the trustee has acted at all times in the best interests of the beneficiaries.
Monica Galea John is a partner at Fenech & Fenech Advocates, where she heads the Trusts and Foundations Department.