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Planning For Protection and Control

In the coming years, protection and control may become even more important planning issues than taxes.

When most high net worth clients think of trusts, the first word that pops into their heads is “taxes.”

This popular misconception has remained stubbornly ingrained in the psyches of clients for many years. However, with the potential demise of the estate tax in the near future, it’s more important than ever to disabuse clients of the notion that trusts are only vehicles for tax planning. The words that advisors should stress to their clients when the topic of trusts is broached are “protection” and “control.”

The government isn’t the only entity from which clients may wish to shield their assets. Perhaps your client owes money all over town, but would still like to leave something for his kids, or maybe he doesn’t trust his daughter’s husband and wants to ensure that he isn’t enriched at her expense in the event of a split. As we’ve written in the past, trusts are still the best way to ensure that clients’ assets aren’t waylaid by third parties before reaching their destinations. According to Gideon Rothschild, partner at Moses and Singer in New York, “Planners may have to pay as much or more attention to asset protection than tax minimization.” Debtors and divorce are here to stay no matter what Congress does, after all. 

Control walks hand in hand with protection and though there is some overlap between the two concepts, they exist independently of one another. Because trusts are intended to work across such vast timelines in comparison to many other wealth management vehicles, it’s easy for even well-articulated intentions to become garbled or even misguided as time passes and the family (not to mention the world around them) evolves. A properly and flexibly drafted trust can ensure that the objectives of both the grantor and his family continue to be met and ownership continuity maintained, particularly in the oft-complex machinations involved in passing on closely or solely owned family business through the generations.

David Diamond, president at Northern Trust and head of their Delaware office, favors directed trusts for these purposes. “The trustee has historically been responsible for everything, and has all of the [fiduciary] responsibility that comes with that,” he says. “A directed trust allows a trustee’s powers and responsibilities to be split up.” In this manner, an advisor can be designated to direct the trustee, in a certain specific aspect of managing the trust—investment decisions being one of the most common.

So, what’s the benefit of bisecting these responsibilities?

“Oftentimes people have created wealth that resides in an illiquid or non-publicly traded asset, it may be hard (or impossible) for a trustee who doesn’t have intimate knowledge of the inner workings of that asset to properly hold that business. By having someone who does know about it (often the founder himself) direct the trustee to hold it, and advise them, you can have a business held in trust that would not normally be allowed,” Diamond explains. 

Additionally, certain families can be tripped up in succession planning because they get tangled up in the concepts of management and ownership and make misguided decisions. Often, wealthy families, driven by their desire to maintain ownership of a business, force a member of the next generation to take control who is either unqualified, disinterested or both. Directed trusts can help obviate this problem by helping to disentwine ownership and management—allowing the first generation to own and direct the business while it’s in trust during their lives. Then, if nobody in the next generation wants to take the reins, it’s easy for a corporate trustee to step in and assume management of the business going forward, while future generations of the family continue to reap the benefits of the ownership they maintain.

Ultimately, Diamond believes that directed trusts offer “A great way for certain clients to take that wealth and pass it down generations while retaining control during their lives.”

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