The case study of re: Brown, Banktuptcy No. 09-22962, US Bankruptcy Ct., D. Utah (2012) wherein his irrevocable trust failed. But why did his irrevocable trust fail? We look at the causes of why his irrevocable trust was open to creditors.
Brown, Bankruptcy No. 09-22962 Case Study: Why did his Irrevocable Trust Fail?
On May 30th, 2012, a federal bankruptcy court in Utah decided a case involving several irrevocable trusts ostensibly controlled by Douglas Brown [In re: Brown, Bankruptcy No. 09-22962, US Bankruptcy Ct., D. Utah (2012)]. Because of the mismanagement of the trusts, the trusts did not survive the attack.
The Brown case is just one in a line of cases that are attempting to minimize the use of irrevocable trusts for asset protection. An irrevocable trust is an excellent way to estate plan to protect assets for the benefit of your family, but only if drafted and executed correctly,” explains Rocco Beatrice of Estate Street Partners, LLC. Many wealthy families successfully use an irrevocable trust to pass assets to their children and grandchildren.”
An irrevocable trust is simply a sort of holding tank where one can place assets, thus becoming property of the trust, that are controlled by a trustee in accordance with the written rules of the trust. Once an individual places assets in the holding tank, the individual does not own the assets anymore; the trust does. This keeps the assets safe from anyone trying to acquire assets from the individual (although sometimes there is a look-back period) because the individual doesn’t own them anymore. Put simply, a creditor cannot take what a debtor doesn’t own. Assets in a trust are then safe for future generations.
In the event of a lawsuit or bankruptcy, creditors increasingly search for a chink in the armor of these trusts. A solid trust is a great start, but you need ongoing support from someone who knows what you need to do to honor the trust,” warns Mr. Beatrice. If a trust creator missteps and creates a situation where there is some doubt as to whether the trust is real or a fiction on paper, the trust could be in jeopardy.” Mr. Beatrice believes that many lawyers draft a trust and then don’t sufficiently explain how they work or what is needed for them to remain intact and do not follow up with the client.
In Douglas Brown’s case, while being investigated and tried by the IRS for back taxes, Mr. Brown created several trusts in which he placed a vacation home and a business. Mr. Brown then filed for bankruptcy and claimed that he did not own these assets, rather they were owned by the trusts.
Mr. Brown lost his case, because although the assets were in the trusts on paper, he was still controlling the assets as if they were not. The trustee allowed him to do as he pleased and did not participate in the management of the assets. The bankruptcy court gave Mr. Brown’s creditors access to his assets. Even if Mr. Brown had not treated the assets as his own, ignoring the trusts, he would have had to deal with the issue of fraudulent conveyance,” explains Mr. Beatrice.
Debtors search to find mistakes in the trust document or how the person creating the trust treats the assets. As the creator of a trust, one can receive some benefits of the trust, but you have to honor the trust for it to stand. You can’t just have a trust on paper. The trust needs to own the assets,” explains Mr. Beatrice, and when done correctly, an irrevocable trust is one of the best ways to control, protect and give assets to your family.”