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Pre-Nups; Are They Enough?

After having accumulated assets, most families envision eventually transitioning family wealth to younger generations and empower them to achieve.  However, many are keenly aware of the potential for spouse of their children to pose a serious threat to family wealth.  If we transfer assets to our children/grandchildren, to some people they now become a more attractive potential spouse.  If a child or grandchild was divorced, how much of the assets we gave to them could be taken?

We cherish our children and grandchildren. However, we understand that they may be seen for what they have, or may have, rather than who they are.  It is often difficult for younger family members to fully grasp the concept of legacy and that their actions impact the family unit.  The greater the assets the more magnified this fact often becomes.  A divorce risks half the assets, in some cases more, that could belong to someone no longer part of the family.  From the financial advisor perspective, a family torn apart by a divorce can strain the advisory relationship and/or reduce the assets the family has to manage. 

While one cannot control who our children or grandchildren love and marry, there are proactive steps available to protect and preserve the assets we have earned, paid tax on, and plan on transferring (whether while alive or after death).  The most common tool is the prenuptial agreement, and while it has it merits, is not nearly as effective as most believe.  

A prenuptial agreement is essentially a relationship exit strategy agreement which specifies how assets will be divided upon divorce.  Simple in concept, but more complicated in application.  Most mistakenly believe a prenuptial agreement to be a binding contract when in fact it is an expression of intent only to be upheld if approved by a family court judge.  Generally speaking, prenuptial agreements must pass a five pronged test to be enforceable: (a) each party had separate, competent counsel, (b) full disclosure of assets, © adequate time to consider, (d) agreement was fair at the time it was entered into, and (e) agreement was fair at the time it was being enforced.  The last two prongs are essentially within the judge’s subjective view and provide a large degree of uncertainty if and how the agreement will be enforced.  Many prenuptial agreements have failed to be enforced leaving family assets exposed.  Even some of the best drafted agreements are subject to risk; Jack Welch’s divorce settlement from several years ago is a vivid example.

It is often difficult to share with an adult child or grandchild financial concerns or views of the family legacy.  Surfacing a prenuptial agreement can be taken as an insult or a challenge to the upcoming marriage, causing relationship strains and resistance. Even when a prenuptial agreement can be a useful part of an asset insulation program, it can become difficult to implement.

Insulating assets offers the most favorable results through the use of several techniques, usually in an interlocking fashion.  Legal entities and structures – such as limited liability entities, family limited partnerships, trusts, and the like – can be used to take advantage of their anti-creditor characteristics and provide barriers to reaching assets.  One cannot lose assets in a divorce that they do not own, even if one benefits from them.  For example, a trust may own a residence and the child is allowed to live in the property with his spouse and children, but if there is divorce, or any other lawsuit, a well designed trust precludes the creditor from reaching the home.  From a relationship perspective, entity and structure based programs only require parental involvement and coordinate with tax planning goals, and thus avoid being seen as intrusive.  

When significant assets are eventually transferred, a key facet is the readiness of the younger generation to manage the assets.  Even the brightest and most prepared often have difficulty hitting the ground running as they may have limited experience in managing significant assets, addressing taxes, professionals, employees, etc.  The vast majority of the structures, when crafted well, incorporate flexibility to permit parents the ability to slowly transfer control, or delay it, to better groom children and grandchildren for management roles.  Flexibility and the ability to modify cannot be overemphasized.

Family office advisors often provide an overview and guidance to families of significance, and though divorce is common, it still remains a challenging, emotional issue.  Prenuptial agreements have value and a place in the asset protection program a family uses, but cannot be relied upon exclusively.  A well designed program should include a blend of strategies to provide significant protection along with flexibility to adjust to changing views and circumstances.  Most family offices, attorneys and advisors are not asset protection specialists and many plans have their shortcomings exposed only after a creditor attack.  Once a family understands its options, the advisor is in an enhanced position to guide the family towards insulation in a comfortable, manageable fashion which not only preserves family legacy but harmony.   

Adam Chodos, Esq., CPA, is a private client attorney specializing in asset protection, wealth preservation, business succession, and advanced estate planning. 

Please note that the information contained in this article is for informational purposes only and should not be construed as legal advice on any subject matter and does not create an attorney-client relationship. No readers should act, or refrain from acting, on the basis of any content without seeking appropriate legal or other professional advice based on their particular circumstances. As laws and rules change frequently, this article contains general information and may not reflect the most current legal developments. The authors expressly disclaim all liability in respect to actions taken or not taken based on any or all the contents of this article.

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Adam Chodos