How could PRC community property rules impact offshore trust planning?

How could PRC community property rules impact offshore trust planning?

Property acquired during marriage will be presumed as community property if not otherwise structured. Property planning helps to obtain clean title to the assets that a PRC settlor wishes to contribute to an offshore trust, and thus prevents potential risks and claims.

With the rapidly growing number of PRC high net worth individuals (“HNWIs”) and their increasing awareness of wealth planning, the use of an offshore trust by these HNWIs as a vehicle of wealth protection and preservation is becoming more and more popular in the PRC.

Setting up an offshore trust for a PRC HNWI could be a complicated task not only because of the PRC legal and tax constraints, but also as a result of the potential impact of the PRC community property rules. Under the PRC Marriage Law, any property acquired during marriage is presumed to be jointly owned by both spouses, i.e. community property. Therefore, a spouse contributing community property to a trust without the consent of the other spouse could face serious legal risks. The trustee in such a case may be exposed to certain liabilities as well if there is a lack of due diligence.

PRC Community Property Rules

Under the PRC Marriage Law, any property acquired by a couple or either spouse during marriage is presumed to be jointly owned by both spouses, unless there is specific evidence that would point to a contrary conclusion. Community property includes but is not limited to salaries and wages, bonuses, business income, investment income, income related to intellectual properties and gift income acquired by either spouse during marriage.

In comparison, separate property mainly refers to the following:

  1. Property acquired by a person prior to marriage
  2. Property acquired by gift or inheritance during marriage while the underlying gift agreement or the will specifies that the property belongs to one spouse
  3. Property agreed to be one spouse’s separate property in a pre-nuptial or post-nuptial agreement.

With the broad definition of community property, as a practical matter, most of the PRC HNWIs would be subject to the community property rules, especially those who are in their 40s or 50s and created their family wealth over the past two decades during which the PRC achieved record-high economic growth. To them, almost all their family wealth would theoretically be community property, even though some assets may have been recorded under one spouse’s name for title recording purposes.

One important question is whether the income generated from the investment of one spouse’s separate property during marriage would be community property or not. The answer is generally yes, with the exception that bank interest earned on separate property remains as separate property.

Because of the PRC community property rules, when community property is contributed by one spouse into an offshore trust without the consent of the other spouse, the contribution would be held invalid, which means that such property may thus need to be returned to the claimant spouse. One tricky related issue here is whether the trustee would be held liable to the other spouse, especially in the event where the trust assets have depreciated in value.

While there are no clear rules in the PRC dealing with such an issue, based on the general legal principles, a PRC court would likely base its decision on whether the trustee acts in good faith or with malice. Since the term “malice” is not clearly defined by the PRC laws, a PRC court may exercise extensive discretion on the interpretation. A trustee should thus conduct sufficient due diligence regarding the ownership of the assets in question and enough care must be taken to minimize such risks.

How to Best Deal with PRC Community Property Rules

A married couple can try to use pre-nuptial or post-nuptial agreements to work around the community property issue. The pre-nuptial or post-nuptial agreement is gradually becoming the most efficient way for spouses to determine their desired ownership entitlement to their community property, which is legally allowed under the PRC Marriage Law. A legally enforceable pre-nuptial or post-nuptial agreement preempts the application of the default community property rules.

Such an agreement can be executed either before marriage, at the point the couple get married or during the course of their marriage. And it can cover any property already owned by the couple and even their prospective property. It can also have the retroactive effect as long as that is a manifestation of the spouses’ genuine intent.

A common question asked by some US tax practitioners is whether the execution of a post-nuptial agreement would be treated as a gift from one spouse to the other spouse, which could potentially create certain US tax issues. A typical scenario is where the wife, a US citizen or green card holder, enters into a post-nuptial agreement with her husband, a Chinese citizen, under which she agrees that certain assets would belong to her husband. The theoretical view in the PRC currently seems to be that this should not be treated as a gift.

In the context of offshore trust, another common question is whether a consent letter signed by the other spouse, instead of a formal post-nuptial agreement, would be sufficient under the PRC laws. The current view of many practitioners in the PRC is that a carefully drafted consent letter based on the full knowledge of the other spouse should be sufficient.

Conclusion

Obtaining clean title to the assets that a Chinese HNWI wishes to contribute to an offshore trust is far more complex than it appears. Without proper planning or care, the contribution would be problematic to both the settlor and the trustee. Therefore, both of them are highly recommended to seek sufficient professional legal advice before taking the first step. https://www.zhonglun.com/en/

Validity of Premarital Agreements in USA

Validity of Premarital Agreements in USA

Validity of Premarital and Marital Agreements in the USA

All fifty states in the United States recognize the validity of premarital agreements and over half of the states have adopted the Uniform Premarital Agreement Act (“UPAA”) adopted in 1983 by the National Conference of Commissioners on Uniform State Laws (“NCCUSL”). The UPAA has been adopted by 30 states.[Arizona, Arkansas, California, Connecticut, Delaware, District of Columbia, Florida, Hawaii, Idaho, Illinois, Indiana, Iowa, Kansas, Maine, Mississippi, Missouri, Montana, Nebraska, Nevada, New Mexico, North Carolina, North Dakota, Oregon, Rhode Island, South Carolina, South Dakota, Texas, Utah, Virginia, West Virginia, and Wisconsin] The states of Alabama, Georgia, Kentucky, Louisiana, Maryland, Massachusetts, New Hampshire, New Jersey, New York, Ohio, Oklahoma, Pennsylvania, Tennessee, Vermont, Washington, and Wyoming all have other unique legal requirements.

The UPAA encourages the enforceability of premarital agreements and requires that the agreement and any amendment be in writing and signed by both parties. The agreement is effective on the parties’ marriage. In 2012, NCCUSL adopted an updated version entitled the Uniform Premarital and Marital Agreements Act (“UPMAA”) which seeks to address both types of agreements that have led to conflicting laws, judgments, and uncertainty about enforcement as couples move from state to state. The UPMAA has been adopted by Colorado and North Dakota and has been introduced in Nevada and the District of Columbia.

The UPAA provides that parties to a premarital agreement may contract with respect to:

  • The rights and obligations of each of the parties in any of the property of either or both of them whenever and wherever acquired or located.
  • The right to buy, sell, use, transfer, exchange, abandon, lease, consume, expend, assign, create a security interest, mortgage, encumber, dispose of or otherwise manage and control property.
  • The disposition of property on separation, marital dissolution, death or the occurrence or non-occurrence of any other event.
  • The modification or elimination of spouse support.
  • The making of a will, trust or other arrangement to carry out the provisions of the agreement.
  • The ownership rights in and disposition of the death benefit from a life insurance policy.
  • The choice of law governing the construction of the agreement.
  • Finally, any other matter, including the parties’ personal rights and obligations not in violation of public policy or statute imposing a criminal penalty.
  • Premarital agreements may not seek to affect a child’s right to support.

Some jurisdiction provide that post-martial agreements are invalid as against public policy unless incident to a separation or divorce. The UPAA is expressly limited to premarital agreements only. However, premarital agreements may be amended or revoked after marriage provided it is in writing. No consideration is required for such amendment or revocation.[UPAA Sections 2 and 5 (1983)] The UPMMA covers both pre-marital and marital agreements.

The general approach of the UPMAA is that parties should be free within broad limits to choose the financial terms of their marriage, however a significant minority of states authorizes some form of fairness review based on the parties’ circumstances at the time the agreement is to be enforced. A few states put the burden of proof on the party seeking enforcement of marital and, more rarely, pre-marital agreements.

The UPMAA chooses to treat premarital agreements and marital agreements under the same set of principles and requirements. A number of states currently treat pre-marital agreements and marital agreements under different legal standards with higher burdens on those who wish to enforce marital agreements. The UPMAA takes a position that the UPMAA and common law principles are sufficient to deal with the likely problems related to both pre- and post-marital agreements.

Under the UPMAA, a premarital agreement or marital agreement may include terms not in violation of public policy including terms relating to: (1) rights of either or both spouses to an interest in a trust, inheritance, devise, gift and expectancy created by a third party; (2) appointment of fiduciary, guardian, conservator, personal representative or agent for person or property; (3) a tax matter; (4) the method for resolving a dispute arising under the agreement; (5) choice of law governing validity, enforceability, interpretation and construction of the agreements; or (6) formalities required to amend the agreement.

The UPMAA is meant to exclude separation agreements and marital settlement agreements from the scope of the UPMAA as those tend to have their own established standards for enforcement.

A premarital agreement is effective on marriage. A marital agreement is effective on signing by both parties. In neither event is consideration required. Marriage itself is considered consideration. https://www.mwe.com

Leigh-Alexandra Basha

Leigh-Alexandra Basha

McDermott Will & Emery
premarital

Maud Udry-Alhanko

McDermott Will & Emery
Prenuptial agreements and wealth planning

Prenuptial agreements and wealth planning

Prenuptial agreements can be used to protect family wealth and to ensure a fair settlement for all parties without the necessity of going to court. This article relates to international families and their use of prenuptial agreements to make wealth planning decisions for the future. We look at what they are, how the courts view them in different jurisdictions and how and why they are currently being used.

What are prenuptial and postnuptial agreements?

‘Pre-nuptial agreements’ are also referred to as pre-marital agreements, ante-nuptial agreements and often shortened to ‘prenups’. They are contracts made by two parties in contemplation of marriage. They outline each party’s responsibilities and property rights in the unfortunate event of their marriage breaking down.

A ‘post nuptial agreement’ is one which is entered into during the marriage and may be, as with a prenuptial agreement, made in case of marital breakdown, or one which has been made following the breakdown of the marriage (a ‘separation agreement’). Post nuptial agreements made in contemplation of marital breakdown are often drawn up to re-enforce a previous prenuptial agreement. For ease of reading, we will refer to prenuptial agreements here.

Why do couples enter into pre-nuptial agreements?

In certain jurisdictions, prenuptial agreements are the norm. In others they are considered unusual, and frankly, unromantic! But there are good reasons for entering into an agreement these days in particular for wealthy families with an international lifestyle and a range of assets held globally hoping to ensure that this wealth stays with that party or his/her family:

  • To provide asset protection: protect family wealth from what has become an increasingly generous series of awards in favour of the weaker party and the vulnerability of inherited wealth, particularly in some common law jurisdictions. Where the wealth has been brought into the family solely by one party, and this could be for many reasons but including where one party is older and has successfully accumulated wealth by his own efforts or because a party has the benefit of family and inherited wealth. It is common for prenuptial agreements to ring fence premarital assets and allow for a fair distribution of only those assets which are accumulated during the marriage;
  • To simplify matters on divorce, create certainty and avoid lengthy and expensive litigation;
  • To protect the interests of children from a previous marriage;
  • Although traditionally seen as a tool for the wealthy, a prenup can also record and allow compensation to a party for giving up employment, or moving jurisdictions for the sake of the family.

How do the courts view prenuptial agreements?

There has been a significant change in attitude towards prenuptial agreements in recent years. Originally they were seen by the courts as a threat to the flexible jurisdiction which prevailed protecting the rights of the financially weaker spouse. In common law countries such as England and Hong Kong, family law has been designed to ensure a fair division of marital property, dependant on a number of different factors to determine who should get what in order to allow the parties to carry on with their lives as comfortably as possible after divorce. The trouble was, the outcome was unpredictable and could differ from one judge to another, depending on his exercise of his judicial discretion. If there was a prenuptial agreement is was just one of the factors the court would consider.

Prenuptial agreements were seen as a tool of the wealthy to limit the rights of the weaker spouse by making her (traditionally) sign an agreement which would arrange that a certain amount would be payable dependant upon the number of years they were married, how many children they had and so on. However, with the increase in awards, particularly in common law jurisdictions, the perception of the prenuptial agreement has changed to one of prudent planning, so long as the rights of the weaker spouse and children are protected within the document.

Very recently in England, the Law Commission has recommended that there be a change in the legislation to make prenuptial agreements legally binding. This has been controversial as in many sectors of society, particularly the Church, prenuptial agreements are considered against public policy as they undermine the idea of marriage as a life long union. Now the papers are all reporting that DIY divorce will become all the rage as couples can write their own contracts before getting married which the courts will recognize as valid.

In reality, society has changed over the years and divorce has become commonplace. Consequently the courts have become more sympathetic to the parties’ wish to regulate their affairs in what is hoped to be a cost efficient way. In most jurisdictions, however, safeguards have been put in place to ensure that such agreements are fair, that financial responsibilities are met and they are not designed by the parties to defeat creditors. Some guidelines common to many jurisdictions are set out below.

Guidelines

Generally, a prenuptial agreement will be enforceable if:

  • Both parties have received independent legal advice – although this is not always fatal if a party was able to take legal advice but chose not to;
  • There has been full disclosure. It is important that each party has the information material to his or her decision and each party had intended that this agreement would govern the financial consequences of the marital breakdown;
  • There is no evidence of duress, fraud or misrepresentation which would in any event put a contract into question, but in addition to this, evidence of undue influence and other unworthy conduct, such as exploitation of a dominant position to secure an unfair advantage, may render the agreement unenforceable. It has been suggested that there should be at least 28 days between signing the agreement and the wedding to allow proper consideration of the implications of the agreement and to ensure that there is no question of pressure at the time of signing;
  • The agreement must be fair. If one party wishes to ring fence inherited or pre marital assets, it is as well to compensate the other party in the division of the post marital assets. If the marriage is long, inherited wealth, pre marital assets and trusts will all be more vulnerable to a claim. The law differs from one jurisdiction to the next in respect of premarital and inherited wealth but in England and Hong Kong the needs of both parties will be considered first. If there is any surplus for distribution, factors such as the duration of the marriage and whether the inherited or premarital wealth has been mingled and used by the parties in their general living expenses will be relevant. If so the funds will be vulnerable, even if there has been an attempt to ring fence that asset by, for example, putting it in a trust.
  • Special care should be taken to provide for children and the inclusion of a review clause is advisable as the contract may become less relevant over time.
  • Are nuptial agreements enforceable in all jurisdictions?
  • For the international client, it is important to know where prenuptial agreements will be enforceable. There is a tread, even where they are not enforceable, that they should be taken into account:
  • In most countries in Europe as well as the US and Russia, prenuptial agreements are strictly enforced and in China, they are enforceable under Article 19 of the Marriage Law;
  • In Canada, New Zealand and Australia they are binding generally. In Canada they are binding, so long as there has been independent legal advice and full disclosure. Further the courts can intervene if the provision for division of property is unfair. In Australia, prenuptial agreements are binding pursuant to Part VIIIA of the Family Law Act. In New Zealand, they are binding unless a court considers that letting the contract stand would cause ‘serious injustice’;
  • In England and Wales, following the 2010 Supreme Court case of Radmacher v Granatino, prenuptial agreements are enforceable, subject to certain conditions, and we await the outcome of the Law Commission’s report;
  • In Singapore, following the Court of Appeal case of TQ v TR, where, in addition to allowing the principle that a pre-nuptial agreement may be considered in a court’s determination of a fair result, it further held that foreign prenuptial agreements governed by foreign law will be given significant weight and would normally be enforceable;
  • In Hong Kong, prenuptial agreements are not enforceable per se, but the existence of such a contract will be a factor which will be taken into account in all the circumstances of the case.

Are nuptial agreements enforceable between jurisdictions?

It is material where the agreement has been finalised but it is more important where the case is heard. In Radmacher v Granatino, the case involved a prenuptial agreement which had been settled in Germany, between a German wife and a French husband with a German law clause. As the couple were resident in London at the time of the divorce, and the petition was issued there, the matter was determined by the English court. In Germany, the agreement would have been strictly enforced, in England, before its determination by the Supreme Court, it was not.

The current disparity between jurisdictions can often give rise to a dispute over forum. The party in whose favour the prenuptial agreement has been made may well go to great lengths to establish that that country should hear the dispute as to financial division particularly where the contract is strictly enforced. At present, if the case is to be heard in England or Hong Kong, the outcome is less certain. A governing law clause may help in a forum dispute, but may not be determinative. If there is a forum dispute, the whereabouts of the assets will be material.

Conclusion

Given the prevalence of prenuptial agreements and the fact that in most jurisdictions they are enforceable, they are a useful tool for international wealthy families. They are regularly viewed as prudent wealth planning, along with the creation of family trusts. The fact that inherited wealth and trusts, which would normally be vulnerable to asset division upon divorce, particularly in England and Hong Kong, can be ring fenced with a prenuptial agreement is particularly attractive.

However, even where such agreements are enforceable, care must be taken with the drafting as many agreements end up being litigated – the opposite of the parties’ intentions. There have been a string of high profile cases in Australia over the last few years. The idea of the ‘DIY prenup’ is therefore not an attractive thought and experts in the field should be consulted to avoid expensive court battles. https://arantxatobaruela.com/