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Irrevocable Trusts and Divorce: Equitable Distribution of the Marital Assets

Equitable Distribution of the Marital Assets

Irrevocable Trusts and Divorce :

Equitable Distribution of the Marital Assets

Irrevocable Trusts, such as our trademarked - Ultra Trust®, can be a very powerful device in divorce. If an Irrevocable Trust is drafted and implemented correctly, assets transferred to the Irrevocable Trust (Ultra Trust®) are the property of the Ultra Trust® and is not "marital property" subject to equitable distribution between the divorcing parties. The Irrevocable Trust is considered to be a third party independent owner of assets titled to the Trust without regard of its creators. Courts cannot force equitable distribution of assets held by an independent third party in cases of divorce.
Community states like Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin are considered to be "common law" states thus assets are considered to "marital assets" subject to equitable division between the divorcing spouses. Title to property in a community property state are deemed to be owned together by both spouses without regard to who purchased the asset. As a general rule, most property acquired by either spouse during the marriage and while domiciled in the community property state, is deemed to be community property and owned jointly by each spouse and therefore not held by a third party. Third party property is not divisible by the common law state. Generally there are a few exceptions, but you need to consult with each Community State. These exceptions are:
  1. Property received by one spouse through gift or inheritance.
  2. Property received through separate property owned by the spouse outside the community property rules, i.e. rents on separate investment real estate.
  3. Through ownership by some other legal entity: Partnership, Corporation, or Limited Liability Company.
An Irrevocable Trust like our Ultra Trust® with an independent Trustee avoids common law disposition in a community property state. If your Irrevocable Trust is the legitimate title holder / legal owner of the property, such third party property held by the Irrevocable Trust is not a marital asset, therefore, not subject to the equitable division of property by the divorcing spouses.
Without regard to your state’s recognition of the marital asset category of separate and non-separate marital property, assets owned by a third party cannot be divided upon divorce even if your state endorses any type of ownership such as Joint Tenancy, Joint Tenancy with the Right of Survivorship, Tenants in Common, Tenancy by the Entirety, or Community Property.
The law of equitable distribution is not exactly a 50/50 split of assets. It takes in consideration other non-direct factors, such as: the length of the marriage, the income capacity of each spouse, the standard of living acquired and required, the contribution of each spouse during the marriage, health, age, and other factors the "court" considers "relevant" which can be anything as trivial as who owns the pets. You don’t want to be in front of a judge who’s not having a good hair day. The Uniform Marriage and Divorce Act §307 (UMDA §307) is a puzzle still being interpreted by the courts. Under these circumstances, when you are in front of a judge, their "relevant consideration" is always "equitable distribution." If you don’t like the judge’s decision, the judge says "sue me," take my decision to the appeals court, and spend your money proving me wrong. In other words, judges legislate from the bench. So good planning is to never be in front of a judge.
The rule against the division of third-party property means that: property owned and controlled by a third party cannot be divided upon divorce because the title of the property is not a marital asset but a rather distinct category of assets falling outside the definition of marital property and is property acquired as a separate property outside the ownership consequences of either spouse and cannot be assumed to be owned by either spouse as long as the ownership and control is by a third party. There are many litigated cases: Elkins v. Elkins, 763 N.E.2d 482,486 (Ind. Ct. App. 2002). The presumption that the equitable title is with the owner of the legal title. 73 C.J.S.PP.36 (2003; Morales v. Coca-Cola Co., 813 So. 2d 162, 167 n.2 (Fla. Dist. Ct. App. 2002; Ritter v. Ritter, 920 S. W. 2d 151, 158 (Mo. Ct. App. 1996); and other similar cases.
The third party (irrevocable Trust) ownership not subject to marital property is further strengthened if the property is owned by an additional independent legal entity i.e. LLC, C Corporation, Sub S Corporation, or the Irrevocable Trust is the General Partner of a Limited Partnership.
Third party: is our Ultra Trust® with an Independent Trustee, and we have added an Independent Trust Protector for additional impenetrable asset protection and healthy checks and balances between the Trustee, the Grantors, and Beneficiaries. Please note that all Trusts are not created equal. The key emphasis of an Irrevocable Trust is that the third party must be independent, the Trustee must be an unrelated person and cannot be related to the Grantor by blood or marriage. For more information about who makes a good independent Trustee follow this link: Selecting a Trustee and : What's a Trust Protector?
Here’s the strongest asset protection device in cases of divorce:
Irrevocable Trust Asset Protection relationship diagram of variouas assets

Irrevocable Trusts vs. Revocable Trusts

I am often asked about Revocable Trusts and to differentiate between revocable and irrevocable. Revocable Trusts are a totally different concept because the "owners" do NOT want to "divorce themselves" from their money. Revocable means, that the original owner(s) created a "Halloween" type mask (Revocable Trust) pretending to be someone else for the purpose of "masking" the ownership of the underlying assets held by the Revocable Trust. The original owners retain the affective control masked by retaining ownership through electing themselves as Trustee, retain powers to revoke or change Trust assets, retaining power to change Trustees, Beneficiaries, or change the terms of the Trust rendering the legal entity a total sham or the alter-ego of the creator. Assets of a Revocable Trust are marital assets because the original owners (Grantors) have retained too much power and control over Trust assets, i.e. "revocable" like looking in the mirror and pretending not to recognize yourself. Imagine being in front of a judge claiming that you have no control over the Revocable Trust and that you cannot be compelled to make distributions. For further reading of Revocable v. Irrevocable Trusts.
This author is of the opinion that: Revocable Trusts are not worth the paper it’s written on and will not take any assignments using the Revocable Trust, even if the client insists, and is willing to pay an outrageous price. I will not do it.
Repeatedly I have stated that: third party property is not part of the marital assets available for equitable distribution in divorce situations, but there are three exceptions to the third party rule:
The first major exception is the underlying problem of "fraudulent conveyance." Under the Uniform Fraudulent Transfer Act you would be committing a crime, see Section 19.40.041
... (a) a transfer made or obligation incurred by a debtor is fraudulent as to a creditor whether the creditor’s claim arose before or after the transfer was made or the obligation was incurred, if the debtor made the transfer or incurred the obligation: (1) with actual intent to hinder, delay, or defraud any creditor of the debtor."...
Fraudulent conveyance has to do with transferring assets at less than the "fair cash value" thereby defrauding a potential creditor, in this case the spouse, or the "intentional divesting of assets" which would have been available for satisfaction of his creditor claim, eg. your spouse in divorce. This intentional disregard, can become a sticky-wicky, for a judge who does not like to be undermined in his court-room. This problem can be cured by making sure there’s a fair exchange of value for what’s given-up for what is received by the person or entity transferring the underlying asset.
The second major exception to the rule against the division of third-party property is when the courts decide to divide such property because one or both spouses retained an equitable interest in the underlying assets, i.e. retain the right to an income stream derived from the underlying assets if it’s stocks and bonds, or rental income. You can avoid this exception by not retaining any rights to the underlying assets of the Trust, i.e. borrow from the Trust instead.
The third exception is moving assets in anticipation of divorce. So when do you start thinking about Irrevocable Trusts? The first place is to start with your parents. Good planning starts with assets you are going to inherit from your parents. If your parents have an Irrevocable Trust where you are the eventual beneficiary, the best planning is for your parents to reposition your inheritance within an Irrevocable Trust engineered for distributions to occur only when the seas are calm or the Trust retain ownership for the enjoyment of all Beneficiaries.

Conclusion

An Irrevocable Trust with an independent Trustee is regarded to be the third party owner / title holder of assets for which courts cannot interpret as marital property to be split between divorcing parties. When an Irrevocable Trust like our Ultra Trust® properly drafted and engineered with an truly independent Trustee and in our case we encourage a Trust protector, legally implemented in a timely fashion with due care in avoiding fraudulent transfers, will be valid in 99% of situations ending in divorce. The best Ultra Trust® planning starts with your parents. If you are going to become the recipient of a large inheritance, talk to your parents about a proper drafting of an Irrevocable Trust to avoid inheritance taxes, avoid probate, and asset protection and of course eliminate the marital asset problem of divorce.
© Copyright 2012, Estate Street Partners, LLC
"In Hollywood, an equitable divorce settlement means each party getting 50% (fifty percent) of publicity." - Lauren Bacall



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