Asset Protection Planning:

There are many ways to protect assets through trusts. One of the more popular types of domestic asset protection trusts is "self-settled". A self-settled trust is generally an irrevocable trust that can be established so the grantor or settlor can be a permissible beneficiary of the trust and, if properly structured, creditors cannot reach the trust assets to satisfy legal obligations of the settlor. Self-settled trusts are drafted to be either included or removed from the grantor's estate, depending on the grantor's desires. Consequently, self-settled asset protection trusts can generally be established even if a grantor's gift tax exemption has been fully utilized. In addition to asset protection, self-settled trusts may also result in state income tax savings, if properly structured and sitused in South Dakota. The grantor generally remains a discretionary beneficiary of such a trust.

Generally, the Self-Settled Trust Statutes Require:

The trust must be irrevocable and utilize South Dakota law
The settlor is to be a discretionary beneficiary
At least part of the trust property should be located in South Dakota
All or some of the trust administration should be performed in South Dakota
At least one trustee must be a resident or institution in South Dakota
The transfer may not be a fraudulent conveyance (South Dakota has a 3-year statute of limitations)

Spendthrift Trusts:

Only a few trust jurisdictions, like South Dakota, have self-settled domestic asset protection statutes. On the other hand, most jurisdictions provide asset protection to beneficiaries by incorporating spendthrift provisions into a trust. The difference between a “self-settled” trust and a “non-self-settled” trust is that the grantor remains a discretionary beneficiary in a “self-settled” trust.

Third Party Beneficiary Trusts

South Dakota was the first state and one of only a few states in the U.S. with a “Third Party Discretionary Support Statute”. According to many advisors, the Restatement 3rd of Trusts may have blurred the line and allowed the undesirable possibility for a fully discretionary trust to be subject to attachment by a beneficiary’s creditors as a property interest. South Dakota is the first and only state in the U.S. to codify the common law and Restatement 2nd, which defines the types of interest a beneficiary has in a trust and therefore the rights of the beneficiary’s creditors.

Consequently, a discretionary interest in a trust is not a property interest in South Dakota. Additionally, limited powers of appointment and remainder interests are not property interests. This can be extremely important from an asset protection standpoint. Please see “Where Should You Situs Your Trust? South Dakota’s New 3rd Party Discretionary Support” (pdf) by Mark Merric, Frances Becker, & Pierce McDowell and Steve Leimberg's Asset Protection Planning Newsletter Issue 104; May 10, 2007.

Beneficiary Defective Trusts

A Beneficiary Defective Trust may provide the trust beneficiary with virtually unlimited control over the trust assets, practically identical to the control that the beneficiary would have if the beneficiary owned the trust assets outright, in addition to all the tax and asset protection advantages unavailable through outright ownership.

A Beneficiary Defective Trust is a trust that is income tax defective for the beneficiary, rather than the grantor. To obtain the tax and creditor benefits, the trust must be funded by someone other than the beneficiary (e.g., a parent).

In a properly structured Beneficiary Defective Trust, a beneficiary can:

Be trustee and manage and control the assets
Be the primary beneficiary and use the trust assets for whatever purpose they desire, plus receive distributions for HEMS and, if an independent trustee is involved, receive distributions for any purpose
Have broad power to appoint the property to anyone other than him or herself, or his or her estate, creditors or the creditors of the estate
Make income-tax-free sales and purchases from the trust

LLC and LP Statutes

South Dakota is one of the leading jurisdictions for great LLC and FLP asset protection statutes. The asset protection afforded by the LLC and LP statutes varies by state. "Sole remedy charging order" protection is generally considered the most desired. A charging order allows a creditor only to attach a right to distributions, rather than allowing a creditor to attach all of the rights of a partnership interest. The creditor does not receive any voting rights.

Consequently, a charging order is generally a right to a distribution, when and if ever made. The creditor has no method (e.g., voting rights) to force a distribution. If a charging order is the sole remedy of the creditor, the result is a waiting game, with the question being, who can wait the longest - the client or the creditor? If the client can out-wait the creditor, typically the creditor will settle for less than the judgment amount.

With a judicial foreclosure sale, the creditor obtains a charging order but does not receive any voting rights and no distributions are made. The creditor complains to the court that no distributions are being made from the partnership. As an additional remedy, the court and the judge order the judicial foreclosure sale of the limited partnership interest, which may or may not pay off the debt. For more information, please see "Forum Shopping for Favorable FLP and LLC Legislation, Part 1 (pdf), Part 2 (pdf) and Part 3 (pdf)."