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Protect Your Assets With a Land Trust

Protect Your Assets With a Land Trust
by F. Bentley Mooney, Jr.

Linda M. is interested in acquiring parcels of land for development in Boulder, Colorado. She does not want to disclose her identity for fear it will interfere with her ability to negotiate the best price for the land. How can she purchase the land without disclosing her identity to the current owners?

Partners John T., Catherine M., and Brian A. own a retail appliance business and the property on which it is located in Chicago. John's marriage is in trouble, and Brian is spread dangerously thin from some failed personal investments. Catherine is worried: What can they do to avoid disruption of their business affairs?

Anna and Ralph P. own a large dairy farm in northern Wisconsin. They want to keep the dairy in the family, but they are concerned about the willingness of their children to get along. How can they prevent sibling warfare from destroying the business?

A solution to the problems in these three scenarios is the land trust, a title-holding device that can eliminate many of the difficulties encountered in the acquisition, ownership, or disposition of real estate.

The Nature of the Land Trust
A land trust is a real property title-holding vehicle, a trust agreement under which the beneficiary directs the trustee in all matters affecting title to the trust property. The beneficiary also holds the trustee free from liability. The trustee usually prepares the deeds and assignments of beneficial interests, whereas the managing beneficiary usually prepares the leases, loan documents and instruments, and other papers for trustee review and signature. In all cases, the beneficiary remains liable for trust property operations.

This type of trust agreement is not recorded, and the deed conveying the property to the trust does not identify the parties involved. The ownership of the property simply assigns the beneficial interest under the trust.

The interests of the beneficiary are considered personal property, similar to owning stock in a corporation. This is important in avoiding probate of out-of-state property and in asset-protection planning.

The trust agreement is usually established for a specific time period, at the end of which the agreement either expires or is extended. The agreement also names a person or entity to receive the interest of a beneficiary who dies during the term of the trust.

For practical reasons, the trustee is always a corporate fiduciary: corporations do not die, lose interest in the job, or move away, and mistakes may be rectified through a collective judgment.

Uses and Benefits of the Land Trust
The uses and benefits of the land trust are varied. With a land trust, an individual or individuals can

  • have privacy of ownership and nonresident ownership.
  • avoid probate.
  • limit exposure to judgments and liens
  • avoid marital interest in title.
  • insulate from the hazards of individual ownership.
  • transfer beneficial interest.
  • use beneficial interests as collateral.
  • prevent partition of the land.
  • protect in the acquisition, development, and operation of apartment developments, condominium apartments, or cooperatives.
  • facilitate estate planning.
  • provide partnership, corporation, and agricultural land-use protection.

Privacy of ownership-Often, a beneficiary prefers to avoid disclosing personal holdings, particularly if that beneficiary is a developer involved in acquiring large parcels of land. Just as often, persons of means prefer not to attract the attention of those prospecting for wealthy property owners. Privacy of this nature is not without criticism: slumlords sometimes hide their ownership to make it difficult for public agencies to enforce municipal codes regarding their properties. On the other hand, however, the legitimate interests of those seeking privacy with land trusts generally outweigh the prospect of such abuse.

Non-resident ownership-Probate ad-ministration of a decedent's estate takes place in the county where the person lived at the time of death. The probate estate includes real property in the state of residence and all personal property. Converting a real property interest to personal property by means of a land trust avoids another probate administration proceeding in the state where the real property is located. It also avoids the need to pay that state's estate or inheritance taxes.

Avoiding probate-The decedent's property is passed on to the recipient by title (generally joint tenancy), by contract (typically life insurance, trusts, pay-on-death accounts, preretirement death benefits of a pension plan), or by probate administration (whatever property remains). At least two means can be used to avoid including in the probate estate a deceased beneficiary's interest in the land trust: one is to issue the certificate to the beneficiary's personal trust; the other is to state in the land-trust agreement who is to receive the beneficial interest if the beneficiary dies.

If the personal trust is located in another state or country, a land trust avoids certain legal restrictions. The simplest way to hold title to real property in another state or country is to acquire it through the living trust established by the owner for the usual estate-planning reasons. If the trustee is an individual, this works well, because all states recognize the right of an individual trustee from another state to hold title to local real property. Few states, however, recognize a corporate trustee from another state or another country.

The estate-planning trust of a land-trust beneficiary holds the land trust interest as personal property, and title to the real property is held by the trustee under the land trust. Thus, there is no foreign trustee of any stripe holding title to the real property and no concern about state recognition.

Judgments and liens-When several people are beneficiaries of a land trust, there is always the risk that one or more of the beneficiaries may encounter a difficulty that results in a personal judgment. The judgment will not impair the interests of the other beneficiaries, because it is not a lien on the real property itself, but only on the interest of that particular beneficiary. Thus, the other beneficiaries (perhaps including the one with the judgment) may continue to deal freely with the development, rent, refinancing, and sale of the trust property without a cloud on the title.

Avoiding marital interests-The real property comprising the land trust is not, in and of itself, subject to the marital rights of the beneficiary. Consequently, instruments dealing with title to the property need only be executed by the trustee, not by the spouse. This allows the trust property to continue operations regardless of marital strife. Any such strife will involve only entitlement to the certificate of beneficial interest in the trust estate, not to the trust property itself.

Insulating from ownership risks-Legal incapacity or bankruptcy of a beneficiary does not interfere with the conduct of trust business. Under other methods of holding and developing real property, the death or incompetence of an owner invariably produces delays while an executor or conservator is appointed by the court and authorization is sought to continue with the project.

Transferring beneficial interest-By converting the beneficial interest in the trust estate from real property to personal property, that interest (usually in the form of a certificate) may be transferred with a simple written assignment. This permits the beneficiary to sell it or gift it without a public record of the transaction and without the related expense and delay of procuring title policies.

Interests as collateral-Theoretically, it is possible to make a collateral assignment of a certificate of beneficial interest as security for a commercial loan. Any such transaction is separate from any loans secured by a charge on the trust's real property and will not impair trust operations.

Preventing partition-Partition is a legal proceeding by which one or more (but not all) of the owners of real property may force division or sale of the property to liquidate their interests. The property in the trust, which is owned by the trustee and not the beneficiaries, is not subject to a partition proceeding, thus sparing the trust and other beneficiaries this risk.

Estate planning-By providing in the trust agreement for distribution on the death of a beneficiary, the land trust may be fully integrated with personal estate-planning needs.

Condominium and cooperative ownership- The land trust lends itself nicely to protecting the beneficiary in the acquisition, development, and operation of smaller apartment developments, condominiums, or cooperatives; land sellers are less likely to inflate property prices and unit owners do not know the owners, thus they do not bother them with complaints.

Partnership advantages-A special attraction of the land trust is its utility in holding property for both general and limited partnerships. With a land trust, property operations may be protected from interference arising from liabilities of the partnership or disputes between the partners. The governing provisions of the partnership agreement also serve as an effective substitute for the beneficiaries' agreement otherwise used in instructing the trustee on title matters when there are multiple beneficiaries.

Corporate uses-Using a corporation as a beneficiary protects shareholders from liability and, by means of the officers appointed by its board, also serves as a substitute for the beneficiaries' agreement. There are some tax issues related to corporate ownership, however, that may require consultation with an accountant.

Agricultural use-The land trust is in wide use for holding title to agricultural land. Farming families who wish to pass their property to succeeding generations without the risk of partition by dissident heirs may be interested in using a trust.

Securities-law implications-When forming a land trust with two or more beneficiaries, and one or more of them depend on the efforts of others to manage the property, securities laws are a consideration. In those circumstances, the creator of the trust must either register or qualify the offering of beneficial interests with the state and federal agencies involved or bring the transaction within state and federal guidelines for exempt private placements of securities.

Tax Implications of a Land Trust
According to the Internal Revenue Code ยง677, a properly structured land trust should be classified for income-tax purposes as a grantor trust. If so, all income and deductions flow through to the beneficiaries in amounts proportionate to their respective interests in the trust estate. If the beneficiary is a partnership, the ultimate tax treatment is determined by the terms of the partnership agreement. The beneficiary also may be a corporation.

An Investment Syndication Vehicle
The land trust can be used as a vehicle for syndicated development of real property. In certain states, the law on the interest acquired by a judgment creditor who forecloses on the principal interest of an investor is more clear (and tolerable) for land-trust interests than for those in partnerships.

A Flexible Legal Agreement
Many investors are unaware of the capabilities of this flexible legal entity called a land trust. It is an important vehicle in real property acquisition, syndication, development, operation, and sale. In addition, it now provides important features for estate plans, from the most simple to today's sophisticated litigation-sensitive estate planning.

Comments

Which states currently allow/prohibit land trusts?

Looking specifically at North Carolina, Georgia, and Tennessee. Thanks.

Bankruptcy of mortgagor beneficiary

If a beneficiary of a land trust files for bankruptcy what effect does this have on the other beneficiary(ies), when that beneficiary is also the settlor beneficiary who is also on the secured loans (lien) against the real property?

Bankruptcy of a Land Trust Beneficiary

If one beneficiary of a multi-beneficiary land trust files bankruptcy it can cause major headaches for the other co-beneficiaries. First, the bankruptcy judge could take the trust interest (BI) from the beneficiary and sell it to satisfy creditors. While this would not be an easy thing to accomplish (because there is not much of a market for partial interests in land trusts), it would tie up the other co-beneficiaries' ability to operate freely. In most jurisdictions the BK judge could not force a sale of the property (by partitian) held inside the trust, but he could refuse to cooperate with other co-beneficiaries...assuming he acquired an equal interest in the Power of Direction along with the BI. However, in the scenario you presented where this beneficiary also signed on the loan for the property held in the trust there would be no other affect (other than stated above) as long as the loan was being paid current. The BK judge looks for assets to sell so he can 1) make a commission and 2) pay the creditors. Although, from the point of view of any other BI holders who have also signed on the loan, there is one less guarantor on the loan when the grantor/beneficiary declares BK.

Randy Hughes
Mr. Land Trust
866-696-7347

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F. Bentley Mooney, Jr., is an attorney and the managing shareholder of F. Bentley Mooney, Jr., Inc., an a.v.-rated law corporation in North Hollywood, California. His four-attorney firm practices exclusively in the areas of business law and litigation, estate planning, and probate. He can be reached at (818) 769-4221.

Legal Characteristics of Land Trusts
Land trusts are allowable in many, though not all, states. For a land trust to be permissible in a given state, that state must recognize the following legal characteristics:

  • validity of land trusts. In the absence of a statute expressly authorizing the land trust, its validity must be determined by an analysis of existing case law. The principal impediment usually is The Statute of Uses, enacted hundreds of years ago to invalidate gifts of land in trust, though it was later made inapplicable to trusts in which the trustee has active duties to perform. While The Statute of Uses is the law in some states, most now reject it. Some simply define it more closely, invalidating any "dry" trusts (those in which the trustee has no duties to perform and where the purpose of the trust is accomplished). The trustee of a land trust clearly has duties that preclude termination as a dry trust. It must, at the instruction of the beneficiary, convey title and perform any other acts that affect title, and only on the expiration of the trust will the trustee be relieved of its duties.
  • clearly distinguished roles for the trustee and beneficiary. The laws must state that the trustee owns the property and is subject to the beneficiary, who instructs on all matters affecting title. The beneficiary holds only the right to give those instructions and to enjoy the rents and profits from the property.
  • the trustee is not the agent of the beneficiary. While a superficial analysis of the relationship between a trustee and a beneficiary suggests an agency relationship, the courts uniformly hold that the beneficiary\'s power to direct the trustee on all matters affecting title does not create an agency relationship. Consequently, even though the trustee acts at the direction of the beneficiary, the trustee acts only as a principal and not as an agent. This will, of course, lead to personal liability against the trustee that fails to adequately protect itself in the trust agreement. Acting as the principal, the trustee cannot create a liability enforceable against the beneficiary without the beneficiary\'s consent.
  • the beneficiary is not the agent of the trustee. In managing the property and giving instructions to the trustee, the beneficiary acts on his, her, or its own behalf and not as the agent of the trustee. Consequently, any obligations incurred are enforceable against the beneficiary, not against the trustee or the trust property. The beneficiary may not sign anything on behalf of the trustee. The beneficiary negotiates leases on behalf of the trustee, but the trustee reviews the leases and decides whether the trust agreement adequately protects it from liability before signing.
  • relationship between beneficiaries. Unless the trust agreement says otherwise, multiple trust beneficiaries are likely to be viewed as partners or joint venturers in conducting business relating to the trust property. In such a relationship, each owes the other a fiduciary duty, but at the same time each is also fully liable for the other\'s actions in managing and operating trust property. If appropriate, beneficiaries may reduce their risk by allowing one beneficiary to act as agent for the others in managing and operating trust property. This limits the number of people involved in making decisions on behalf of the trust. One note of caution: It is important to consider that this might cause the association to be classified as a taxable corporation.
  • relationship with third parties. Only the beneficiary is responsible to fulfill any commitments related to the trust. The beneficiary may not bind the trustee; rather, the beneficiary makes the decisions and presents the documentation to the trustee. The trustee, after determining that it is free from liability, signs the document. The powers and restrictions found in the deed usually give the trustee full powers affecting title, and third parties need not examine the trust agreement to ascertain whether the trustee is acting consistently with its duties and obligations. Deed provisions of this type are contrary to neither law nor public policy. They are given effect as a means of enabling third parties to deal with real estate relying on the record title of the land trustee.

Any beneficiary may, of course, act alone in dealing with the land trust beneficial interest; it is personal property, like stock in a corporation. Consequently, the beneficiary may sell the interest, use it as loan collateral, or give it away.

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