ABOUT THE AUTHORS: Clare Stirzaker is Vice
President, Wealth Advisory, at Barclays. This article was prepared
with the support of Alice Killingbeck, Assistant Vice President,
Wealth Advisory, at Barclays
The rapid spread of political discord culminating in the Arab
Spring has shaken the Middle East and has unquestionably affected
the wealth-planning strategies of Middle Eastern clients. Clients
are increasingly examining the need to diversify, not just in asset
allocation, but also in asset location and asset structuring. At
the same time, their succession planning objectives remain of
constant and continuing importance.
As a result, increasing numbers of Middle Eastern clients and
their advisors are now seriously considering the type of strategies
and structures that should be implemented with offshore and onshore
assets and, in particular, the extent to which trusts can help meet
their objectives.
Separation is the key
Once clients have decided to create a trust, the next step for
advisors may be to consider with the client the value of creating
more than one trust for tax or succession planning purposes. The
traditional push-back from clients in creating too many structures
emanates from a common concern that such an approach is too
burdensome and costly. However, the increasing significance of
asset protection in the minds of clients is now making them more
willing to consider the advantage of creating separate trusts, to
help ring-fence and protect assets.
Local challenges
Historically, advisors have always preferred that Middle Eastern
assets are kept in separate structures to non-Middle Eastern
assets. This is primarily to protect the assets held on trust and
the trustees from potential forced heirship claims after the death
of a settlor, which will be instigated on the basis that the assets
held in trust should form part of the settlor’s estate and pass in
accordance with Shariah. As a result, it has always been prudent to
segregate Middle Eastern assets from non-Middle Eastern assets and
locate the trusts in a jurisdiction with strong anti-forced
heirship laws, such as the Cayman Islands. Whether such structures
would fully protect Middle Eastern assets from local claims remains
debatable, but certainly they should help protect non-Middle
Eastern assets if the trust has been validly created.
There is an increasing interest in the use of trust structures
to hold Middle Eastern assets, but this has always been a difficult
area to address because it is frequently unclear whether such a
trust structure would truly be respected by the courts in the
region. In addition, there are often local laws restricting the
foreign ownership of Middle Eastern assets, which make ownership by
offshore trustees more difficult. As a result, an offshore trust
may not always provide the best solution and often the desired
result may be better achieved through a family governance exercise,
particularly for a family business. However, where a trust is
deemed appropriate by all parties, a further step that can be taken
to minimise the risk of forced heirship claims is to consider the
ways the trust can comply with Shariah.
Shariah compliance
Private client advisors and trustees in most major offshore
jurisdictions are becoming more familiar with Shariah and how its
tenets can be incorporated into the design and administration of a
trust structure. Therefore, where there is a desire to ensure that
a trust complies with Shariah, there will often be discussions with
the clients and their local advisors on the following types of
topics: how to ensure that the settlement of assets on trust
constitutes a valid gift for Shariah purposes; how the trust fund
should be divided and distributed in accordance with Shariah after
the settlor’s lifetime; whether it is possible for assets to remain
on trust in certain circumstances; how to ensure that any
investments made by the trustees are Shariah compliant; and whether
it is possible to use the assets held on trust to deal with
zakat – charitable payments.
However, such provisions in a trust can also pose practical
difficulties for a trustee. For example, what is the most robust
way to identify the zakat sum? What process should the
trustees follow to identify Shariah heirs? Clients may want the
trust fund to be divided in accordance with Shariah, but for a
certain share to be held on trust until a child reaches a certain
age or level of maturity, or to take into account unstable regimes,
but will this be respected and upheld after the settlor’s
lifetime?
If a client wishes a trust deed to take account of Shariah, then
clearly it remains critical that both the trustees and the advisors
pay careful attention to the drafting of the deed, not just to
ensure Shariah compliance and to achieve the client’s objectives,
but also to ensure that any practical issues for the trustees are
carefully thought through to minimise their risk.
“There is increasing interest in the use of trusts to
hold Middle Eastern assets”
Grand designs
In addition to the risk of forced heirship claims, there may now
also be an increased risk of creditor or state claims against
clients and their businesses, as a result of increased volatility
in the region. However, segregation of assets in itself may not be
sufficient to deal with such third-party commercial risk. The
design of the structure is also key.
Whereas previously clients from the Middle East have sought to
design trusts that permit them to retain the greatest degree of
control, they are now more actively engaging in discussions on the
benefits of discretionary trust structures and beginning to
recognise that structures in which they have reserved extensive
powers may not offer them the level of asset protection they
require.
The all-important power of revocation also has to be considered
against the backdrop of potential court orders. More than ever,
clients should be alerted to the fact that this power could be used
to their disadvantage if court orders are issued, as shown by the
recent case of Tasarruf Mevduati Sigorta Fonu v
Merrill Lynch Bank and Trust Company (Cayman) Ltd and
others. Instead, advisors should focus on the provisions
governing the hiring and firing of trustees and on outlining
alternative ways of winding up the trust. For clients who remain
reluctant to cede control to trustees, the appointment of third
parties, such as protectors, may provide additional comfort and may
enable them to compromise on the level of control they would
otherwise exercise.
Recent political events have shone a light on the importance of
well-designed trusts and, now more than ever, advisors need to
ensure that there is no lacuna in the drafting that could give rise
to later issues. For example, to give comfort to clients and
trustees, careful thought needs to be given to what provisions
should be included in the trust deed to deal with any emergencies,
such as a state of war or revolution, or the issuance of freezing
orders. If such events happen, should a client and their family be
automatically excluded as beneficiaries of the trust? If so, should
that exclusion be revocable?
The good trustee
Thought must also be given to how the trust is managed by the
trustees. To provide maximum asset protection, it is important that
the trustees do not simply follow the instructions of the settlor
without thought. Equally, the identity of the trustees is key: if
the trustee is a private trust company where all the directors are
family members, to what extent have they been respecting the trust
structure? When designing a trust structure, the identity and
powers of trustees are critical if the trust is to stand the test
of time.
In onshore regimes we trust
The introduction of the Dubai International Financial Centre
(DIFC) Trust Law and DIFC Single Family Office
Law provide interesting alternatives to holding regional
assets in offshore trusts. However, questions surround the
implementation of these laws, including whether such structures
will be recognised in other Middle Eastern countries that are
outside the DIFC. The laws are still in the early stages of their
evolution, however, and there is certainly potential for
development. As a body of precedent builds up behind them, it may
be that, for Middle Eastern assets, these laws come to be viewed as
appealing options for certain clients, alongside other onshore
strategies, such as the use of lifetime gifts and debt
solutions.
Where do we go from here?
Trusts continue to be the structure of choice for the offshore
wealth of many clients, due to the legal and tax benefits they can
provide. However, increasing attention needs to be paid to the
design of trusts to ensure that they fully achieve the client’s
legal objectives – a standard reserved powers trust deed may no
longer remain the right solution for many Middle Eastern
clients.
Increasingly, clients want to create trust structures to hold
Middle Eastern assets, but it remains debatable whether offshore
trusts can fully achieve clients’ legal objectives for such assets,
unless due consideration is given to Shariah and to local laws
(which may restrict foreign ownership and also levy tax on such
foreign owners). The key asset of a family is often the family
business, so a more appropriate step in the first instance may be a
family governance exercise, which will deal with the management and
devolution of the family business in an open and transparent forum.
Subsequent principles can then be enshrined in corporate documents
and potential trust or corporate vehicles, which may be created and
managed both onshore and offshore.