Two Ancient English Statutes And A Dispute Over Modern Voidable Transactions Law

Pernicious nonsense!" exclaims Professor J. Frank Parnell, the ill-fated nuclear physicist in the 1984 movie Repo Man. It is wonderful little phrase, which is well suited to application in litigation briefs. It is a phrase which is also good as applied here, to an argument that has recently arisen at the intersection of trust and fraudulent transfer law, writes Jay Adkisson for Forbes.

The collision occurs between two old English statutes. The first is the Statute of Henry VII, ch. 3 of 1487, which declared to the effect that self-settled trusts -- a trust that one creates for its own benefit -- "be void and of none effect." The second is the Fraudulent Conveyances Act of 1571, commonly known as the Statute of 13 Elizabeth. Both statutes formed the basis for what has developed into the contemporary American laws which, respectively, allow creditors to penetrate to the assets of a self-settled trust, and to set aside voidable transactions.

The law for which these statutes formed the basis have considerably changed over the years, to where these statutes are little more than historical oddities and late-night fodder for either the chronic insomniac law professors or amateur researchers of legal history like myself. The rule of 3 Henry VII, ch. 3 of 1487 about self-settled trusts has evolved from outright avoidance to one where the settlor/beneficiary's beneficial interest is available to creditors. Similarly, the Statute of 13 Elizabeth has likewise metastasized from a primarily penal statute into a complex but purely civil body of law (although rarely-enforced criminal laws for fraudulent conveyances separately linger).

So who does care? The answer is that there are some folks who are opposed to part of a particular comment in the new Uniform Voidable Transaction Act (UVTA), namely the Reporter's Comment to section 4, the relevant part of which comment follows:

2. Section 4, unlike § 5, protects creditors of a debtor whose claims arise after as well as before the debtor made or incurred the challenged transfer or obligation. Similarly, there is no requirement in § 4(a)(1) that the intent referred to be directed at a creditor existing or identified at the time of transfer or incurrence. For example, promptly after the invention in Pennsylvania of the spendthrift trust, the assets and beneficial interest of which are immune from attachment by the beneficiary’s creditors, courts held that a debtor’s establishment of a spendthrift trust for the debtor’s own benefit is a voidable transfer under the Statute of 13 Elizabeth, without regard to whether the transaction is directed at an existing or identified creditor. Mackason’s Appeal, 42 Pa. 330, 338-39 (1862); see also, e.g., Ghormley v. Smith, 139 Pa. 584, 591-94 (1891); Patrick v. Smith, 2 Pa. Super. 113, 119 (1896). Cf. Restatement (Third) of Trusts § 58(2) (2003) (setting forth a substantially similar rule as a matter of trust law).

Why do these folks view this comment as problematic? The primary reason goes to the marketability of self-settled trusts, often referred to as "asset protection trusts". Very simply, if a person creates a self-settled trust for the reason of defeating creditors -- which is how they are widely marketed -- the UVTA, when timely asserted, operates to set aside transfers to such trusts.

Notably, we are here only talking about so-called Domestic Asset Protection Trusts (DAPTs), which, should a creditor come along, rely on the courts interpreting various state laws in a way that favors such trusts. Self-settled offshore trusts, commonly referred to as Foreign Asset Protection Trusts (FAPTs) operate completely differently. Their asset protection is primarily the brute-force effect of the trust's assets being in some offshore debtor-haven, and thus unavailable to creditors no matter what a U.S. court holds. By contrast, the critical weakness of DAPTs is that their assets are in the U.S., and thus are entirely dependent for their protection upon the rulings of U.S. courts. Anything which is even perceived to hurt the viability of DAPTs is thus viewed as a weakness of DAPTs, and threatens their now widespread marketing as an asset protection tool.

Here it should be further noted that no change in the law as to this issue took place between the former Uniform Fraudulent Transfers Act of 1986 (UFTA) and the 2014 revisions to the UFTA which were named the UVTA. The summary of law expressed in the comment (which itself is not law) was both the law before and after the UVTA -- the Comment to the UVTA merely highlights this issue in a way that the previous Comment to the UFTA did not. The only thing that has changed is that the proponents of DAPTS do not like the highlighting of this issue.

We now arrive at the issue which is at the heart of this controversy involving two old English laws, the first of which is more than five centuries old. The proponents of DAPTs now claim that the Reporter's Comment is flawed because (they claim) American law relating to transfers to self-settled trusts derives from the Statute of Henry VII, ch. 3, of 1487, which voided those trusts outright, and not the Statute of 13 Elizabeth of 1571, which voided fraudulent conveyances.

Pernicious nonsense!

Or, apples and orangutans if one would prefer. The two English statutes accomplish different things entirely, and are not exclusive. The 1487 Statute of Henry VII voids the creation of self-settled trusts generally, whereas the 1571 Statute of 13 Elizabeth void fraudulent conveyances generally, including those made to trusts. The two statutes run side by side, in compliment not conflict. A self-settled trust may be void under the 1487 Statute of Henry VII and transfers to such a trust may be void as a fraudulent conveyance under the 1571 Statute of 13 Elizabeth. Nothing in the 1571 Statute of 13 Elizabeth carves out transfers to self-settled trusts.

Among numerous other places, this is made clear in the landmark fraudulent conveyance ruling in Twyne's Case (1601), which was based on the 1571 Statute of 13 Elizabeth and which was issued only 30 years later. The opinion in Twyne's case is based in substantial part upon the findings of the court that a farmer (Pierce) had transferred a flock of sheep to his neighbor (Twyne) by way of a secret self-settled trust:

5th. Here was a trust between the parties, for the donor possessed all, and used them as his proper good, and fraud is always apparelled and clad with a trust, and a trust is the cover of fraud.

This particular finding became one of the original "Badges of Fraud" and has survived in some form or another in Anglo-American law for over 400 years.

But in looking at the trust tree, we should not ignore the larger point of the fraudulent transfer forest, which is that it is the intent to defeat creditors which is important. The most critical sentence in the aforementioned comment to UVTA § 4(a) is not the one about self-settled trusts, but this line: "[T]here is no requirement in § 4(a)(1) that the intent referred to be directed at a creditor existing or identified at the time of transfer or incurrence."

That is the law, and that has been the law for over four centuries. Contrary to popular belief, § 4(a) doesn't protect only existing creditors, i.e., the creditors that the transferor has now, but § 4(a) also protects creditors who don't even exist at the time of the transfer and which are known as "future creditors". Thus, if Joe makes a transfer today, when he has no creditors, but his intent in making the transfer is to defeat his creditors who come along later, then § 4(a) will operate to set aside Joe's transfer.

This has (and has always had) ugly implications for asset protection planning, because what is asset protection planning in significant part if not to try to shelter assets from future creditors? While some types of planning are sanctioned by existing law, such as where a person takes advantage of statutory creditor exemptions, forming a corporation or LLC to limit liability, etc., other transfers that are made with the intent to defeat creditors fall squarely within the ambit of § 4(a). This was pointed out by Claudia Tobler and Ingid Hillinger in 1999, long before anybody had even started of thinking about revising the UFTA into the UVTA"

Under a literal application of fraudulent transfer law, any asset protection device constitutes a fraudulent transfer because every asset protection device, by definition, attempts to shelter assets from creditors—i.e., to remove them from creditor reach. The “intention to remove assets” surely qualifies as an attempt to hinder or delay creditors, if not to defraud them. Thus, it would seem that any asset protection device is “inherently defective.” The product can't deliver what it promises—asset protection. Or, more precisely, it can only make good on its promise and put assets beyond the reach of creditors if the governing statute of limitations has expired, typically within four years of the transfer or one year after it reasonably should have been discovered.

Tobler & Hillinger, Asset Protection Devices: Twyne's Case Re-Told, 9 J.Bankr.L. & Prac. 3, 9-10 (1999) (emphasis in original).

This is exactly why, as I've said thousands of times for the last 20 years, planning that is done with an eye towards creditor protection should not look like it was done for that purpose, again outside of statutory exemption planning, conventional business entity planning, etc. A small minority of what I would call "real" asset protection planners understand this critical point and tailor their plans accordingly; the rest -- the bush leaguers which constitute the majority of such planners -- instead rail about how unfair are the fraudulent transfer laws. After all, how can they sell asset protection to prospective clients when that is precisely what their clients cannot do?

It is also the primary, deadly weakness of DAPTs: They are sought by clients and marketed and sold by promoters for the very purpose of asset protection, i.e., to attempt to shelter assets from creditors. While the laws of a growing minority of states now specifically authorize DAPTs by statute, and usually shorten the applicable Statute of Limitations for transfers to DAPTs, the still majority of states have not enacted DAPT laws. In those latter states, the mere fact that a citizen of that state set up a DAPT creates the implication that they were trying to shelter assets from their creditors, and thus make DAPTs for those citizens readily pierceable by creditors. For citizens of non-DAPT states, perhaps Ralph Nader's characterization of the Chevrolet Corvair is the most on point: "Unsafe at any speed".

 As for those who desire to sell DAPTs in non-DAPT states, their solution is a simple one: Get DAPT legislation adopted in the non-DAPT states. Whether this is a good idea or not, I leave to the legislative assemblies of the non-DAPT states for now, and my own comments for another day.

However, to misinterpret the 1487 Statute of Henry VII and the 1571 Statute of 13 Elizabeth so as to gin up a non-existent conflict between those two statutes, so as to cast false aspersions on the Reporter's Comment to § 4(a), well . . .


Pernicious nonsense!

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