Sy Schnur CPA/PFS

Protecting Asset from Legal Traps

Some "high-risk businesses" face additional exposure because they manufacture products that are widely used or provide services that require special expertise. Businesses may be subject to exposure for asbestos contamination, medical malpractice, product liability, or professional malpractice, to name a few. This article discusses suitability of various asset-protection techniques for certain individuals.

As part of the planning process financial and legal advisers must gauge a client's exposure to legal liability and be familiar with planning techniques appropriate to a particular client's situation. Insurance coverage, legal protection unique to certain assets, the way property is titled, choice of the type of entity for doing business, statutes, and legal planning techniques all can be used to protect assets from creditors. Ideally, a planning technique will also serve a sound business, estate, or family planning objective. Of course, as illustrated in the following example, the best technique for a given client depends upon his or her particular situation. E.g.: Shirley Richards, M.D., age 36, is a prominent neurosurgeon who lives in a major U.S. metropolitan area. She has twoyoung children by his second marriage to Sam, age 35, and one child from a prior marriage to her ex-husband, Anthony. Shirley has a net worth in excess of $11 million. In addition to her pension plan, she has a diversified portfolio of stocks and bonds, and some undeveloped farm land in a prime location. Shirley is also a limited partner in an aggressive tax shelter that is being audited by the Internal Revenue Service.

The upper limits on Shirley’s automobile and umbrella liability insurance policies are $800,000 and

$2 million, respectively. John's umbrella policy is coupled with his underlying automobile and homeowner's insurance and provides catastrophic liability protection for automobile and personal (non-business) liability in the event the claims limits on his underlying policies are exhausted. Her cost for medical insurance has skyrocketed in the last couple of years. Considering, her substantial net worth and high risk, Shirley should consider implementing more than one of the Asset Protection Plans found in Table A & B below.

Techniques in Table A are mainly Statutory benefits available for ordinary

& high risk business & individuals.

They describe what property (or extent to which certain types of property) can be seized by a creditor with a legal judgment to satisfy a debt or used by a bankruptcy trustee to pay creditors. These exemptions are basic tools for fighting off creditors. (For purposes of this article, "primary creditors" shall refer to the IRS as collector of federal taxes and family creditors such as ex-spouses and children who are judgment creditors and are entitled to payments for alimony, child support and property settlement agreements. “Secondary Creditors” shall

refer to a1l other creditors. Primary creditors are given much greater legal powers to collect debts than secondary.

In contrast, the sophisticated techniques described in Table B require a substantial amount of advance planning and may involve legal agreements, the creation of new entities, or fractionalization of ownership. High-risk businesses and individuals such as Shirley’s should consider which of techniques are best suited to protect her economic interests.

When two or more individuals own an interest in the same piece of property, fractional ownership results. Fractional ownership is advantageous for a debtor because it makes the collection process more difficult. In some cases, the law protects a non-debtor's fractional interest in property that is owned, in part, by a debtor. Furthermore, a creditor typically will not want a fractional interest in property such as real estate that cannot be sold without the consent of a non- debtor co-owner. Even if debtor and non- debtor interests in the same property can be separated, the additional time and costs required to do so may persuade a creditor to settle for less, thereby discounting the original claim. In effect, fractional ownership creates special difficulties for a creditor and gives a debtor an extra layer of protection from legal claims.

Certain types of fractional ownership may create same problems for potential debtors as they do for creditors. An owner must give up sole ownership and control over an asset, including ability to easily sell it for cash. Once a fractional interest completed, it may be difficult or even impossible to unwind transaction. How well will the Table B techniques work in Shirley’s case? At very least, Shirley may be able to force any secondary creditors to settle for less, thereby discounting their original claims. However, short of 'fleeing the country, it will be difficult (if not impossible) for Shirley to escape her primary creditors.

Table A: Statutory (or Judicial) Asset Protection Techniques Available to most Individuals.

Statutory Technique	Characteristics	Protection from primary creditors?	Protection from secondary creditors?
Homestead exemption	State lows permit a homeowner to designate a personal residence and the adjacent land as a homestead. Most states place a limit on the size or value of a homestead exemption	No	Yes, with the exception of creditor claims for loans used to construct, purchase or improve a home.
Exemption for Social Security benefits	Federal low provides an anti-assignment (anti-garnishment) provision for Social Security benefits	No	Yes
Exemption for qualified retirement plan benefits	Federal law (ERISA) provides an anti-assignment (anti-garnishment) provision for qualified retirement plan benefits.	No	Yes. However, certain jurisdictions don’t extend the protection to plans that cover a sole proprietor or a sole shareholder only.
Exemption for deductible IRAs.	Most state laws protect at least part of a deductible IRA from the claims of creditors.	No	Yes. However, certain courts hold that state exemption statutes for IRAs are preempted by ERISA, and, therefore, invalid.
Judicial protection for jointly titled property – tenancies by the entirety	Tenancy by the entirety involves joint ownership between a husband and wife. Neither spouse can sell or give away his or her interest without the other’s permission. Most states don’t permit a debtor spouse’s interest in a tenancy by the entirety to be divided and sold for the benefit of creditors.	No. However, cases decided prior to 2002 protected a tenancy by he entirety from the IRS as creditor.	No
File for bankruptcy to avoid creditors and discharge debts.	Federal law excludes certain property such as qualified plan benefits and exempts part or all of other property such as a home from the bankruptcy estate and the claims of creditors.	Yes, in certain situations. However, income taxes owed to IRS for three years prior to date of filing for bankruptcy are not dischargeable, nor are claims for alimony obligations, child support, or property settlements.	Yes. However, priority creditors such as the IRS and state taxing authorities have first claim against the bankruptcy estate. Secondary creditors (unsecured and non-priority creditors) are entitled o share pro rata in the remaining property.

Table B: Important Asset Protection Planning Techniques for Wealthy Individuals and Owners of High risk Businesses

Planning Technique	Characteristics	Protection from Primary Creditors?	Protection from secondary Creditors
Marital agreement	A marital agreement (prenuptial or postnuptial) is a contract between spouses concerning the division and ownership of marital property. It is mainly concerned with dividing property in case of divorce. A prenuptial agreement is made before the marriage takes place, while a postnuptial agreement is made after the marriage takes place.	No, as to the IRS. Property identified by a marital agreement usually is subject to claims by the IRS because most married couples file a joint return and are jointly and severally liable for income taxes. Yes, for spousal creditors. A valid marital agreement will be recognized on the event of divorce.	Yes. A marital agreement will protect an individual from secondary creditors’ claims against the other spouse. In addition, a marital agreement protects property from the claims of the other spouse’s bankruptcy creditors. (As a practical matter, most married couples are jointly liable for most forms of indebtedness.)
Family limited partnership	A family limited partnership consists of at least one general partner (a family member) who manages the business and one or more limited partners (other family members) who do not have management authority and are required to make a fixed capital contribution only. A properly drafted family limited partnership is established primarily for asset protection, estate tax, and/or income tax planning purposes.	Yes. A primary creditor can file a lien (or obtain a charging order) against a debtor-partner’s family partnership interest. However, absent fraud, a primary creditor cannot access the partnership’s property.	Yes. A secondary creditor’s rights are the same as those of a primary creditor.
Self-settled asset protection trust	A self-settled trust is one in which the debtor is both the creator and a beneficiary. This type of trust typically contains a spendthrift provision; i.e., it prohibits creditors from attaching a beneficiary’s interest.	No. any interest that a debtor-beneficiary retains in this type of trust will not be protected from primary creditors.	No. In most states, any interest that a debtor-beneficiary retains in this type of trust will not be protected from primary creditors. However, in Alaska, Delaware, Nevada, or Rhode Island, this type of trust will protect a beneficiary’s interest for claims by secondary creditors.
Asset protection trust that is not self-settled	An asset protection trust that is not a self-settled is one in which the debtor is a beneficiary but not the creator of the trust. It typically contains a spendthrift provision.	No. This type of trust won’t protect a beneficiary’s interest from IRS’s claims for taxes. As a general rule, this type of trust won’t protect a beneficiary’s interest from claims for support by family members. (Note: in some states, a discretionary trust will protect a beneficiary’s interest.)	Yes. In general, this type of trust won’t protect a beneficiary’s interest from claims by secondary creditors.

Foreign trust

A foreign trust is a trust that is located in a governed by the laws of a country other than the United States. It is frequently used by U.S. citizens to protect assets from creditors, contains spendthrift provisions, and the debtor is typically the creator and the beneficiary.

No. A foreign trust will not protect a beneficiary’s interest from the IRS’s claims or taxes. With respect to family creditors, the issue hasn’t been fully resolved. It is the author’s opinion that family creditors can compel a debtor beneficiary of a foreign trust to return assets to the United States.

This issue hasn’t been fully resolved. As a practical matter, it may be very expensive for a creditor to pursue assets held by a foreign trust. Therefore, a properly structured foreign trust may offer significant protection from secondary creditors.

Why You Need a Will

If You Die Without A Will And Leave Young Children
A Will Is Your Personal Plan
How To Make The Best Will For Your Personal Plan

Many people think that a will is only for those who want to set up trusts or save taxes. This may be one benefit. But the primary reason for making a will is to leave your property to those you care about, and in the proportions you choose.

If you die without a will, the property in your name in most instances will be distributed among your family members, and perhaps not exactly the way you prefer. Thus, if you are survived by:

Here is something else to consider: If your children are under 18 years old at your death, a court-appointed guardian will be required to manage your child's share. Although the Court probably would appoint your spouse as guardian, a bond must be posted. Payment of the bond premiums will cost money. If any money has to be used to pay for your child's education, clothing or living costs, prior approval of the Court is necessary. The Court also requires annual accounting of income and expenses. In addition, investment of the funds by the guardian may be limited as well. If the guardianship lasts for any length of time, the child's funds may not grow at an acceptable pace. All these problems could be easily avoided with a properly drafted will.

If you and your spouse should die at or about the same time it is important that you make provision not only for a guardian of the property for any child under age 18, but also, and perhaps more important, you should name a guardian of the child's person. A guardian of the person is given custody of the child during minority.

A will is tailored to your own particular needs. You name as executors those persons you want to handle your property. An executor can be a relative, a friend, your accountant, your lawyer or a bank or trust company that specialized in the handling of estates.

The choice of an executor is yours only, if you make a will. You realize the value of having a qualified person help with your affairs during your life. It is just as valuable after you die.

How do you go about making a will? Can you pick up some printed forms and make them out in your own handwriting?. You could do that, but you might not have a legal will, and you may not have the best will for you personal situation.

Perhaps you are interested in buying a book that tells you how to write you own will. This might cause you to miss an essential requirement or have less than the best plan.

Making the best plan and the best will takes knowledge and expert advise. E.g. do you know that property held jointly with another may not be distributed by will? Life insurance, may or may not be distributed by will depending who is named as beneficiary. This is also true for IRA's, pension plans and certain other assets. Also a spouse has a right to a car and some other items, and to a large share of the property no matter what your will may say. The best plan recognizes that the best will is only part of the total plan for the distribution of property.

If You Plan Properly And Have Your Plan Reviewed Periodically, You May Lower Or Eliminate Your Tax Burden And Leave More Of Your Assets To Your Beneficiaries.

Before you make a will, you should also know how estate taxes affect you. The Federal and New York estate taxes frequently change as the result of various tax reform acts. Be aware, that you will may not be up-to-date with these complex and always changing laws. Each State has different laws and your domicile at death and any real property held affects the State(s) who wish to tax your Estate. Also, be aware that you can choose which of your beneficiaries pays the estate taxes. If you plan properly and have your plan reviewed periodically by a qualified tax professional, you may be able to plan you estate in ways that can significantly lower or eliminate your tax burden and leave more to your beneficiaries.

To have the best plan for yourself and for your beneficiaries, call us and make an appointment to discuss your will. Remember, the advice of an expert may prove invaluable.

The cost of drawing a will depends on the amount of time your professional spends on the matter and the complexity of your assets and their diversity. In small estates, when a will contains no complicated provisions or unusual problems, the fees are nominal.

Caveat emptor, a cheap will can cost you and your family signficantly because of inadequate or no planning.

Remember, making a will is one of the wisest investments of your life-and after.