In 2012, Virginia amended its implementation of the Uniform Trust Code to provide for Self-Settled Spendthrift Trusts, a form of Domestic Asset Protection Trust (DAPT). This type of irrevocable trust allows an individual (the Settlor) to create a Trust that protects assets from their general creditors, while allowing a Qualified Independent Trustee to use both the income and principal of the Trust for the Settlor and one or more additional beneficiaries (Settlor’s spouse, children, grandchildren, etc.).
There are several requirements to create a Self-Settled Spendthrift Trust in Virginia:
- Transfers to the Trust may not render the Settlor insolvent (Virginia Code Sec. 64.2-745.1(C))
- A Settlor may transfer some of her assets to the Trust, but should retain enough assets to meet current financial obligations. We typically advise clients to take a passive investment, such as a stock portfolio or rental real estate located in Virginia, to fund the Trust.
- Creditors that were in existence at the time the Trust was funded have five years to file a lawsuit (Virginia Code Sec. 64.2-745.1(D))
- The Trust needs to be created and funded before any contingent liabilities arise, so don’t wait until you have a judgment against you before creating and funding the Trust. If you make a transfer to the Trust, only the creditors who had claims at the time of the transfer can sue to collect against the Trust’s assets, and they must do so within five years of the transfer.
- The Trust must at all times have an Independent Qualified Trustee (Virginia Code Sec. 64.2-745.2(A))
- The Trustee may not be the settlor, their spouse, parent, sibling, descendant, employee, or any business entity controlled by the Settlor.
- The Trustee must be a resident of Virginia, or a Trust company (including a Bank’s trust department) that is licensed and domiciled in Virginia.
- The Trust must be irrevocable by the Settlor (Virginia Code Sec. 64.2-745.2(A))The
- The Settlor may not unilaterally revoke the Trust, but even an irrevocable Trust can be reformed or modified by judicial order or consent of all of the parties to the Trust (Settlor, Beneficiaries and Trustees).
- The Trust must always have at least one other beneficiary in addition to the Settlor (Virginia Code Sec. 64.2-745.2(A))
- The Settlor may not retain the right to disapprove distributions (Virginia Code Sec. 64.2-745.2(A))
A Virginia Self-Settled Spendthrift Trust does not provide protection against tax obligations due to the United States or the Commonwealth of Virginia, or for any child support obligations, but otherwise protects the assets in the Trust from the general creditors of the Settlor.
While a Virgina Self-Settled Spendthrift Trust can hold real estate in Virginia, it is not advisable to put real estate from other states into a Virginia Self-Settled Spendthrift Trust, because courts in the jurisdiction where the real estate is located will typically not apply Virginia’s asset protection standards to out of state real property.
The Trust may be structured to qualify as a Grantor Trust, allowing the income in the Trust to still be part of the Settlor’s personal tax return, and ensuring that no taxable gift is made at the time the Trust is funded. Distributions by the Trust to Beneficiaries other than the Settlor would be considered taxable gifts to the Beneficiaries at the time the Distributions are made, subject to the gift tax annual exclusion.