Offshore Trust — Cook Islands Asset Protection

What Is an Offshore Trust?

An offshore trust is a legal structure created outside the United States and designed to protect assets from domestic creditors. While not required, typically the offshore rust only holds assets outside of the United States as well.

The offshore trust is one of the best-known offshore asset protection planning tools. An offshore trust most often is a “self-settled trust” where the trustmaker and the beneficiary are the same. The trustmaker appoints a trustee who is either an individual citizen of a foreign country or a trust company with no U.S. office or affiliation.

Understanding an Offshore Trust

The use of offshore asset protection trusts began in the Cook Islands in the 1980s and 1990s after the Cook Islands developed an extensive statutory framework to protect trust assets from creditors. Since then, other jurisdictions such as Nevis, Belize, and the Bahamas, have developed similar statutes.

A foreign offshore asset protection trust may have additional people serving as trust advisers or trust protectors. Advisors and protectors help administer and protect the offshore trust and its assets while having no beneficial interest in trust property. A protector can be given the power to change trustees, reallocate beneficial interests, or direct the investment of trust assets.

An offshore trust protects assets from U.S. civil judgments primarily because the trust’s assets and its trustee are situated beyond the legal reach of U.S. state and federal civil courts. U.S. judges have no authority to compel an offshore trustee to take any action with trust assets. Creditors do not have legal means to levy upon or interfere with the administration of an offshore trust’s assets.

In other words, even if a U.S. court ordered a foreign trustee to turn over assets, the offshore trustee could ignore the order. To levy or garnish offshore trust assets, a U.S. judgment creditor would have to file and re-litigate the underlying U.S. lawsuit in the foreign courts and obtain a new foreign judgment. This is difficult, expensive, and rarely done.

The best offshore trusts have the following characteristics:

• The trust is irrevocable.
• The trust gives the trustee the discretion to withhold payment.
• The grantor is not the trustee.
• The trust provides the trustee the discretion to withhold payment from the beneficiary.
• The trustee is a foreign trust company or financial institution.
• Sometimes, a friend or advisory serves as trust protector, so long as the trust protector is not located in the United States.
• The trust expressly states that the location of the trust (called the situs) governs trust provisions.
• The sole asset of the trust is a 100% ownership position in a foreign LLC or other entity that can be controlled by the debtor when not under creditor duress.

Cook Islands Trust

A Cook Islands trust is an offshore trust that is created under the laws of the Cook Islands using a Cook Islands trustee. The Cook Islands are located in the South Pacific (same time zone as Hawaii). Cook Islands trust companies are licensed and regulated by the Cook Islands government. Cook Islands law imposes strict procedures and qualifications on Cook Islands trust companies.

The Cook Islands were actually the first jurisdiction that enacted favorable trust laws enabling U.S. residents to protect assets. When the Cook Islands enacted the International Trusts Amendment Act of 1989, it became the premier offshore trust jurisdiction. The law affords the utmost asset protection while still maintaining flexibility and privacy for U.S. trust-makers. Cook Islands trust companies are reputable, experienced, and thoroughly competent.

Cook Island Trust Example

Many offshore asset protection plans involve more than one legal entity. For example, a U.S. resident can establish an offshore trust and also a U.S. limited partnership or an offshore limited liability company.

Most offshore LLCs are formed in Nevis, which for some time has been a favored LLC jurisdiction. However, recent changes to Nevis have led to more people forming LLCs in the Cook Islands.

A U.S. resident first transfers his U.S. business interests, property, or money to the LLC. The LLC membership interests are owned solely by the trustee of the offshore trust. The trust beneficiaries are usually the trustmaker and his family.

For example, a U.S. person could form a Nevis LLC and transfer his assets to the LLC. The person could next establish a Cook Islands trust using an offshore trust company as trustee. The Cook Islands trust would own 100% of the Nevis LLC. The U.S. resident could serve as initial manager of the Nevis LLC with the option of appointing an offshore manager should the person ever become under legal duress.

The benefits of this offshore trust structure include:

• The Nevis LLC is managed by the U.S. individual when there are no anticipated lawsuits. Once a legal issue arises, the trustee of the offshore trust should remove the U.S. individual as manager of the Nevis LLC and then appoint a successor manager that is also offshore.
• The plan diversifies control over two separate jurisdictions instead of putting all the assets in either the LLC or the trust.

What is Offshore Asset Protection?

Offshore asset protection is an asset protection tool that involves forming a trust or business entity in a favorable legal jurisdiction outside of the United States. Offshore assets are placed under the control of trustees or managers who are not United States citizens and do not have a business presence in the United States.

People with significant assets and higher risks of legal liability can employ offshore asset protection to move legal battles with creditors to jurisdictions beyond the reach of United States courts.

Turnover and Contempt Orders with Offshore Trusts

Debtors relying on offshore trusts should consider what will happen if a domestic court orders the debtor to bring back assets transferred to an offshore trust. It may not be as simple as invoking an impossibility defense and saying, “I can’t.”

Some recent court decisions treat a transfer of assets to an offshore trust as an intentional act of creating an impossibility. The courts then disallow the impossibility defense to the contempt order, stating that the impossibility is of the debtor’s own making.

Debtors may have more success with an offshore trust plan when protecting the assets in state court rather than in bankruptcy. Some states, such as Florida, do not generally provide for the turnover of out-of-state assets due to jurisdictional reasons. In addition, judgment creditors in state court litigation may be intimidated by offshore asset protection trusts and may not seek collection of assets held by the trust.

Offshore Trust Accounts

Many people believe that they can protect cash deposits from their creditors simply by opening an offshore trust bank account. People assume that a judgment creditor cannot garnish their accounts at a bank with no U.S. branches or offices.

However, it has become difficult for a U.S. citizen to open a foreign bank account in his own name. Most reputable foreign banks do not accept U.S. citizens as individual bank customers. Secret bank accounts do not exist because of treaties between the U.S. and most countries following 9/11.

In practice, the easiest way to deposit money in a foreign bank is to first establish an offshore LLC or offshore trust. Then, the debtor can request the foreign LLC manager or trustee to open the account in the name of the foreign entity.

Foreign managers and trustees have relationships with banks that enable them to open accounts on behalf of their U.S. clients. Offshore trustees usually maintain their client’s financial accounts at EU institutions that have no U.S. branches. EU financial institutions can purchase U.S. marketable securities and maintain bank accounts in U.S. dollars. The trustmaker does not have direct access to offshore trust financial accounts, but he can request distributions from the offshore trustee.

Types of Assets Held in an Offshore Trust

Offshore trusts are most effective when protecting movable assets such as bank deposits, marketable securities, small business stock, limited partnership interests, and LLC interests.

Offshore trusts are not as effective in protecting real estate located in the U.S. In general, real estate remains subject to the powers of the courts of the jurisdiction where the property is located. Even if a debtor re-titles U.S. real estate in the name of an offshore trust or an offshore LLC, a U.S. court will likely still control the debtor’s equity and the property title because the property remains within the U.S. court’s geographical jurisdiction.

Picking a Trustee for an Offshore Trust

Trustee selection is the most important part of offshore trust asset protection. The offshore trustee controls the trustmaker’s assets. The offshore trustee can be a bank, a trustee company, or an individual in another country. The offshore trustee controls the trustmaker’s assets.

The trust plan works best when the trustee is professional, reliable, and, most importantly, is willing to defend the offshore trust against attacks initiated by creditor collection. A person considering an offshore trust should investigate, and if feasible, personally meet with a foreign trustee before appointing them as trustee of their offshore trust.

There are reputable and experienced companies serving as trustees of offshore trusts. These companies carry insurance policies issued by well-known insurance companies that insure their customers against loss from negligence and criminal acts of the trustee’s agents and employees. Some trust companies are also audited by national U.S. accounting firms, and they offer the audit results to prospective offshore trust clients.

Most people prefer to retain control of their own assets held in their offshore trust by having the power to remove and replace the trustee. Retaining the power to change an offshore trustee creates legal risks. A U.S court may not have direct authority over assets held offshore, but the court does retain personal jurisdiction over the trustmaker who resides in the United States. A judge could order the debtor to exercise his retained rights to substitute a creditor agent for the current offshore trustee. Therefore, offshore trust asset protection works best if the trustmaker has no control over trust assets or other parties to the trust. The trustmaker should not retain any powers that he could be forced to exercise by a U.S. court order.

Some trustee companies permit the trustmaker to reserve primary discretion over trust investments and account management. This arrangement gives the trustmaker some control over assets conveyed to the trust, and the trustmaker can give up rights if he is threatened with legal action, leaving the offshore trustee in sole control. Another option is for the trustmaker to name a trust protector who is not subject to U.S. court jurisdiction. The trust protector can remove a trustee who is not responsive or who is not taking good care of trust assets.

Offshore Trusts and Bankruptcy

An offshore trust does not function as effectively if the U.S. debtor files bankruptcy. A bankruptcy debtor must surrender all of their assets and legal interests in property wherever held to the bankruptcy trustee. Bankruptcy courts have worldwide jurisdiction and are not deterred by foreign countries’ refusal to recognize general civil court orders from the U.S.

A U.S. bankruptcy judge may compel the bankruptcy debtor to do whatever is required to turn over to the bankruptcy trustee all of the debtor’s assets throughout the world, including the debtor’s beneficial interest in an offshore trust. Bankruptcy debtors who have refused such orders have been held in contempt and incarcerated.

Offshore Trust Taxation

Offshore asset protection trusts will not reduce or avoid U.S. income taxation. This is a common misconception. Offshore trusts are not an effective income tax planning vehicle.

Generally, a foreign irrevocable trust will be treated as a “grantor trust” for taxation purposes regardless of whether the trustmaker reserved any powers associated with domestic grantor trusts. A grantor trust is a trust whose taxable income is reported by the grantor so that the trust is disregarded for U.S. tax purposes. The trustmaker must report all trust income, including capital gains, on his personal tax return as ordinary income. This taxation treatment applies regardless of whether the assets themselves are in the United States or offshore.

In addition, there are IRS reporting requirements for trustees and beneficiaries of offshore trusts. In 1996, Congress imposed substantial penalties for failure to report offshore trust financial information. A trustmaker must work with a CPA experienced with foreign trust reporting and taxation.

Is Offshore Asset Protection Worth it?

Offshore trusts are not cheap. Increasingly invasive “know your customer” (KYC) regulations have made establishing offshore entities more difficult. An offshore trustee usually investigates potential U.S. clients more fully than the U.S. client investigates possible offshore trustees. The increased scrutiny and KYC “red tape” have caused U.S. attorneys to increase their legal fees to establish an offshore trust plan.

After paying to set up the trust and conveying assets to the trustee, the trustmaker will incur annual administration fees. Trustee companies charge annual fees in the range of $1,000 to $5,000 per year plus hourly rates for extra services.

Offshore asset protection is not for everyone. For most people living in Florida, a domestic asset protection plan will be as effective for much less money. But for some people facing difficult creditor problems, the offshore trust is the best option to protect a significant amount of assets.

Key Points About Offshore Trusts

There are ten important considerations regarding offshore asset protection trusts:

1. Offshore trusts are designed to place the trust assets and trust parties beyond the jurisdiction of U.S. courts enforcing a domestic civil judgment.

2. Offshore trusts are less effective in personal bankruptcy because bankruptcy courts have jurisdiction over a debtor’s assets wherever they are located worldwide.

3. Offshore asset protection trusts are less effective against IRS collection, criminal restitution judgments, and family support obligations.

4. Even if a U.S. court does not have jurisdiction over offshore trust assets, the U.S. court still has personal jurisdiction over the trustmaker. The courts may try to compel a trustmaker to dissolve a trust or bring back trust assets.

5. The trustmaker must be willing to give up legal rights and control over their trust assets for an offshore trust to effectively protect these assets from U.S. judgments.

6. Selection of a professional and reliable trustee who will defend an offshore trust is more important than selecting an offshore trust jurisdiction. Trustmakers should interview, and if possible, personally meet prospective trustees of their offshore trusts.

7. Offshore trusts are irrevocable. The trustmaker cannot change the beneficiaries, trustees, or terms of an irrevocable offshore trust.

8. Offshore trusts are treated as “grantor trusts” for tax purposes meaning that trust income, including capital gains, is treated as the trustmaker’s ordinary income for U.S. tax purposes.

9. Most internet information about offshore trusts, including most advertising of offshore trusts, is published by document preparation companies that are not attorneys and that do not employ their own attorneys. People who “buy” an offshore trust package from a non-attorney company will likely not have effective asset protection.

10. Offshore trusts are complicated and expensive. Most Florida residents can achieve asset protection with traditional asset protection tools.

Important Court Cases

In re Lawrence, 279 F. 3d. 1274 (11th Cir. 2002): Civil Contempt Can Defeat Offshore Trust Plan

A bankruptcy court may use powers of civil contempt to compel a debtor to repatriate assets from an offshore trust established to defraud creditor collection. Bankruptcy courts have jurisdiction over debtor’s foreign assets. The alleged impossibility of the debtor’s compliance with a court order is not a viable defense when the debtor created the impossibility.

But see a different result with a more favorable outcome of an offshore trust plan:

• In re Rensin, 600 B.R. 870 (Bankr. S.D. Fla. 2019)

Sargeant vs. Al-Saleh, 137 So. 3d. 432 (Fla. 4th DCA 2014): Court Does Not Have Jurisdiction to Compel Debtors to Turn Over Foreign Stock Certificates

A judgment debtor held stock in various foreign corporations. The Court held that the court lacked jurisdiction to order the debtor to turn over the stock because the court did not have in rem or quasi in rem jurisdiction in the foreign property.

Frequently Asked Questions

Below are answers to some commonly asked questions about offshore trusts.