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ASSET PROTECTION TRUSTS [299]

 An asset protection trust (which may be inter vivos or testamentary) is useful where the settlor wishes to provide for a beneficiary who is a spendthrift and/or has problems with creditors. In such a case, the settlor will want to ensure that it is the beneficiary, and not his/her creditors, who benefits from the property settled on the trust. This is a completely reasonable objective, since the prospective settlor has the option of leaving the beneficiary nothing at all – which he or she might very well decide to do if the trust funds are destined to ultimately go to the beneficiary’s creditors rather than the beneficiary.

The problem is that the Bankruptcy and Insolvency Act (the “BIA”) provides that an interest in a trust is included in the property of the bankrupt. An interest in a trust is eligible even though it only construes an entitlement to a future stream of payments. Fortunately, a trust can be drafted to circumvent this problem. It is possible to make the trust entirely discretionary and allow the trustees to exercise their discretion as to who to benefit and who to overlook. Likewise, it is possible to provide that, if the trustees, in their discretion, determine that the beneficiary is or has a reasonable prospect of becoming insolvent, the entitlement of the beneficiary to the trust ceases.

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The creditors that the settlor wants to protect the trust funds from may be his/her own creditors, and the settlor may intend to be the trust’s principal or sole beneficiary. In such a case the obstacles to establishing a trust that will be safe from creditors will be more difficult.

The BIA provides that a “settlement” of property is void where it takes place within one year of the settlor declaring bankruptcy.

The BIA renders void against the trustee in bankruptcy any transfer made one to five years prior to bankruptcy if:

-          the settlor was already insolvent at the time of the settlement; and

-         “The interest of the settlor in the property did not pass” upon the settlement.

For property or an interest there in to “pass”, one must give up control of it.

Whether or not a settlor acted with the intention of avoiding his/her creditors is not relevant to the BIA. However, it is relevant to provincial fraud legislation such as the Fraudulent Conveyances Act. Where there has been a demonstrable attempt to avoid future debts, a creditor can apply to strike down a transaction. Moreover, there is no time limit associated with this legislation. The onus is on the applicant. However, although there is nothing inherently wrong in a person transferring his/her property to trust under which that person is only a discretionary beneficiary, the judiciary frowns on such manoeuvres and any such trust arrangement established for the purpose of protecting the settlor from creditors is highly likely to end badly at the instance of creditors.

www.insuranceplancanada.com

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