Estate and succession planning is now a priority for a lot of families and it might not necessarily be restricted strictly to the elite families. It is seen that a lot of families are keen on creating a structure so that their children don’t have to face any issues after they are gone.
Swati Saxena, Founder & CEO, 4 Thoughts Finance said that a lot of people are opting for estate planning because they are getting money at a very early stage. “If you are an employee with very young kids, it’s very difficult to think about what might happen in the future with your wife, son, or other relatives. Hence, you can create a planned structure to manage and transfer the estate by Will or Family Trust,” she said.
There is one aspect of succession and estate planning that can be used to safeguard your assets. It is called ring-fencing. Ring-fencing is just as it sounds. It protects your wealth from other elements so that you can pass on your wealth smoothly.
“By ring-fencing specific assets, families can help mitigate potential threats to their wealth and ensure that your legacy is preserved according to your wishes. It’s an essential tool in estate planning, especially for individuals with complex financial situations or those looking to safeguard assets for future generations,” said Yogesh Kshirsagar, Senior Director at Pentagraph.
Ring-fencing can protect families from various issues
“Ring-fenced assets can be protected from creditors’ claims, legal judgments, divorce settlements, business liabilities, bankruptcy claims, and fraudulent claims. Protection also extends to medical or long-term care costs if structured properly,” said Chaital Vas, Partner, Nakshatra Legal LLP.
There are various methods such as basic nomination, wills and testaments, family Charter or family constitution, trusts, HUF (Hindu Undivided Family), Limited Liability Partnership (LLP) and Married Women Property Act (MWPA).
The most important element that is used by families is the creation of trust. By putting assets into a trust, it is no longer in direct control of the individual which protects them from liabilities.
“Trusts allow for the differentiation of economic interests and management. They can include conditions to protect against scenarios like remarriage. Trusts are a good vehicle for ring-fencing assets and providing protection. However, if someone is already facing a liability, setting up a trust to defraud creditors won’t work. Trusts should be set up as a precaution, like insurance,” said Alok Saigal, President and Head, Nuvama Private.
Now let us look at the different aspects where ring-fencing is helpful.
Insolvency
There are two ways to look at insolvency. The first is the corporate insolvency and the second is the personal insolvency.
Zarir Bharucha, Partner, ZBA said that the extant insolvency process in India is restricted to corporations and individuals who have given personal guarantees to secure the borrowings of a corporation. Currently, the insolvency process does not extend to individuals who are not personal guarantors.
According to Jahnavi Kohli, Partner, ANB Legal, the methods to safeguard the assets include transferring assets to (a) family members (b) entities owned or controlled by themselves their family members or trusted allies (c) irrevocable trusts set up under the Indian Trust Act, 1882. The new age method adopted by people also is to choose certain classes of Insurance policies, like under the Married Women Protection Act, 1974.
In the event of a personal insolvency or bankruptcy, only certain assets of the individual are excluded from the insolvency process.
“Broadly speaking, assets immune to insolvency are, insurance policies, pension fund, unencumbered house, personal ornaments, vehicles, assets held in trust on behalf of a third party. Insolvents could therefore formulate creative arguments to expand the definition of ‘excluded assets’ to ring fence their personal assets. Another option of immunising assets from the insolvency process is creation of a private trust. The trust property is outside the insolvency proceedings. However, transfer of assets to the trust must be done much before the insolvency process otherwise such assets could be vulnerable to claw back as a fraudulent transfer,” said Zarir.
“Any transfer to a distinct separate legal entity would be effective from shielding of assets from the creditors provided such transfers are genuine and not fraudulent with the intention to defraud creditors,” Jahnavi added.
Divorce Cases
It is seen that a lot of times, the patriarch is not happy with their daughter-in-law. So, they might look at ring-fencing their assets so that it is not claimed by their daughters-in-law during divorce.
Nishant Datta, Advocate, High Court – Delhi mentioned that an important aspect of matrimonial laws in India is that a wife cannot claim ownership of the property of the husband in any manner.
He added that one of the ways to safeguard a family’s assets is to clearly spell out the extent of ownership in joint assets and shares of respective family members. Income arising from these assets should be spelt out either in the form of a family settlement or in the individual family members’ tax returns. This maintains jointness while providing clarity regarding the extent of shares of family members.
“Another manner of protecting a family asset is to place it under the banner of an HUF. This is known as blending and a formal declaration once made by an individual throwing his personal asset into the common hotchpot of the joint family, this cannot be undone unilaterally. Similarly a private family trust can also be formed for the same purpose,” he said.
Dependent Children
Having dependent children is another aspect that parents have to look at.
“In case of a child being dependent, either mentally or physically, or in case he/she is a victim of drug use, then a private family trust is the best instrument to hold and control the family’s assets through trustees. In addition, an asset or property can also be placed under an HUF so as to take away the control of an individual family member as in such a case he/she may not even be able to pledge or transfer their undivided share in the property,” said Nishant.
In conclusion, ring-fencing can be a way to protect assets by creating a proper structure in the form of trusts, wills and other methods.
From a taxation side, ring-fencing can reduce estate and inheritance taxes. “However, it may involve gift taxes and ongoing income taxes on trust earnings. Proper structuring is necessary to optimise tax benefits and ensure compliance with tax regulations,” said Chaital.
Padmaja Choudhury is a freelance financial content writer. You can reach out to her at [email protected]