Article on Domestic Asset Protection Trusts and Child Support

Trent Maxwell (J. Reuben Clark Law School, Brigham Young University) recently published a comment entitled, Domestic Asset Protection Trusts: A Threat to Child Support? 2014 BYU L. Rev. 477 (2014). Provided below is the introduction of the comment:

In 1997, Alaska became the first state to pass a usable statute allowing the creation of domestic asset protection trusts (DAPTs).¹ Delaware was quick to follow, passing asset-protection legislation of its own later that year.² Since then, a total of fourteen states have passed legislation allowing the creation of DAPTs.³ The impetus behind this legislation has been the respective states’ hope for an increase in trust business and the revenue that it would generate.⁴ In order to achieve this result, the DAPT statutes are structured so that settlors must utilize services within the DAPT state⁵–such as requiring trust assets to be deposited within the state and requiring trust administration to be done by a state resident or company.⁶ In also a bid to attract trust business, many states have chosen to severely limit or entirely abolish the Rule Against Perpetuities.⁷ By eliminating the effect of the Rule Against Perpetuities, so-called dynasty trusts can be created,⁸ which are exempt from the generation-skipping transfer tax.⁹

While it is unclear whether these states have achieved their goal of increasing revenue,¹⁰ it is clear that the recent DAPT legislation has had a significant impact on creditors’ rights.¹¹ As states vie to become the top trust situs, states are incentivized to pass progressively more debtor-friendly legislation in order to draw trust business into their state.¹² Because of the perverse incentives it creates, this competition has been dubbed a “race to the bottom.”¹³ One question that states have been confronted with in passing DAPT legislation has been how to treat child support–whether this “creditor” claim would be treated the same as other claims, or whether an exception would be made so DAPTs could not be used to avoid child support claims.¹⁴

While much has been written about the passage of DAPT statutes in general, this Comment adds to the discussion by specifically examining how states have tackled this question of how to treat child-support creditors. The majority of states that have passed DAPT legislation have included an exception for child support; however, disparity exists among the states on the strength of the exceptions and under what circumstances the exceptions apply.¹⁵ Furthermore, at least one state did not include any exception for child support at all, in effect treating child-support claimants the same as any other creditor-debtor relationship.¹⁶ Such legislation is troubling not only for its immediate effect on child-support dependents of settlors in DAPT states, but for how this legislation might pressure other states to eliminate child-support exceptions from their own statutes in order to compete for trust business. This Comment argues that states should include strong exceptions for child-support dependents because the creditor-debtor relationship is unique in this context, shielding of child support debts is immoral, and the economic cost to society of not having an exception for child-support claimants likely outweighs the economic benefits to the states.

Part I of this Comment examines the history behind self-settled trusts, including the traditional view of these trusts, the rise in the use of off-shore trusts, and finally the creation of domestic asset protection trusts. Part II summarizes the DAPT statutes that have been passed, particularly focusing on how the respective statutes treat child support, and also discusses why tax considerations are likely the motivation behind some states choosing to provide little or no protection to child support in their DAPT statutes.¹⁷ Part III explores policy considerations for including child support exemptions in DAPT statutes; such as the unique nature of the creditor-debtor relationship, and examines why tax considerations may be driving states that have passed DAPT statues to eliminate all exemption creditors (including child support “creditors”).¹⁸ Lastly, Part IV concludes that DAPT statutes that provide no exception, or only a weak exception, for child support are a threat to child support and should be disallowed for public policy reasons.¹⁹