Thursday, June 27, 2013

What is the extent of the settlor’s intent required to find that a transfer to an irrevocable asset protection trust is a transfer in fraud of creditors? If the trustee has been directed to pay the settlor’s current creditors, is that sufficient to negate a finding that the transfer to the trust was a fraudulent transfer? That was what the Court was called on to decide in United States v. Spencer, 2012 U.S. Dist. LEXIS 142195 (October 2, 2012).

In this case, Anthony Spencer (“Spencer”) pleaded guilty to 37 criminal tax offenses and was sentenced to 63 months in the Federal penitentiary. Just before Spencer’s report date, the IRS sent him the “Tax Examination Changes” showing tax due of just under $500,000. Shortly thereafter and just before he began serving his sentence, Spencer received a $600,000 divorce settlement payment from his former wife, which he placed in an account titled jointly with his accountant and co-defendant in this case, Patrick Walters (“Walters”). Walters then used $495,000 from this account to create and fund the Spencer Irrevocable Trust (“Trust”), of which Walters was serving as sole Trustee. Spencer provided Walters with written instructions regarding the Trust administration, directing Walters as Trustee “to take my entire worth and invest, then reinvest it, and do this over and over till you either make me enough to pay the IRS or lose it all trying.” The Trust instrument designated Spencer as the beneficiary, to receive the residue of the Trust once the income tax liability had been paid, with the payment to be made in four years.

Prior to the expiration of the four years when payment was to be made, Walters had withdrawn all the funds from the Trust and from the joint account, so that no money was ever paid to the IRS or to Spencer. In 2003, after Spencer had served his prison sentence, he stipulated in tax court that he owed a total of $882,991 in back taxes and interest. In 2010, with a substantial portion of this tax deficiency remaining unpaid, the IRS filed this action against Spencer and Walters, alleging that Spencer had fraudulently transferred property to the Trust “with the intent to hinder, defraud, or delay payment of Spencer’s tax liabilities” based on the Oklahoma Uniform Fraudulent Transfer Act.

The Court agreed with the United States that Spencer had committed actual fraud when he created the Trust and funded it with substantially all of his property as a matter of fact and law under the Fraudulent Transfer Act. Spencer’s purpose in transferring his property to the Trust was to delay the payment of his tax liability to the IRS. As stated by the Court, “Spencer possessed sufficient funds to cover his tax liability. Rather than pay his tax liability, Spencer created the Trust.” Spencer admitted in his deposition that he created the Trust to “delay the IRS’ collection of taxes that he owed.”

Spencer’s and Walters’ defense to the fraudulent transfer claim was that, as reflected in Spencer’s written instructions and in the Trust instrument, Spencer intended to accumulate more funds with which ultimately to pay the tax. However, this language establishes Spencer’s intent “to delay” payment, which is sufficient to support a finding that Spencer acted with fraudulent intent in contravention of the Oklahoma Uniform Fraudulent Transfer Act. Based on these facts, the Court ruled that the government could recover from Walters the amount of $595,000, which is the amount that Walters withdrew from the Trust and the joint account.

If you are considering this type of planning for your own estate planning needs, you should contact your attorney to consider whether a self settled spendthrift trusts can be validly created and funded in your personal circumstances if the state whose law applies to the formation and administration of the trust has enacted the Uniform Fraudulent Transfer Act, without dealing with the inconsistency between the spendthrift protection and the Uniform Fraudulent Transfer Act.

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