When doctors are pitched asset protection planning by a local or national guru, what they are pitched is not even half of what needs to be done to have a complete asset protection plan.
What is a “complete” asset protection plan? It’s one that protects your assets from anyone or anything that can take them.
The key part of the definition is “anyone or anything.” Most asset protection gurus say they know how to protect their clients’ assets from creditors. That’s code and means they know how to use domestic and sometimes offshore structures to protect assets from a typical negligence lawsuit.
When I say anyone or anything that can take your money that includes:
The creditor most doctors are concerned with is their patients. The bread and butter asset protection tool of asset protection gurus is a domestic multi-member Limited Liability Company (LLC) set up in the correct jurisdiction.
Why LLCs? If you have a $500,000 brokerage account in your own name (like 95% of those reading this article), it is 100% at risk to all creditors. If you capitalized a properly setup LLC with the $500,000, that money would be safe if a creditor goes after it. A judge won’t be able to order you to remove money from the LLC to give to a creditor.
The magic language in certain state LLC statutes says that a creditor trying to reach assets in an LLC can only obtain a “charging order” from the court as its sole remedy when trying to obtain satisfaction for a judgment.
In this example, obtaining a charging order doesn’t get the creditor the right to force distributions. In short, a charging order allows the creditor to sit around and wait for money to be distributed from the LLC (which should never happen).
Also, based on Revenue Ruling 77-137, if income is created in the LLC and not distributed, a creditor with a charging order against an LLC will receive a 1099 for that income even though the creditor didn’t receive the income. This is called phantom income; it’s very painful, and creditors will avoid using charging orders so they don’t receive a 1099 for income they didn’t receive.
Who is your number one guaranteed creditor every year? It’s the IRS. Therefore, if you can use tools to reduce your income taxes, you are doing a form of asset protection.
You can use the obvious tools like a 401(k), profit sharing, defined benefit, 412(e)3 defined benefit and a cash balance plan to reduce your income taxes. These are all different types of qualified retirement plans that allow you to income tax deduct from $17,000 up to $200,000-plus a year per doctor into a plan depending on the circumstance.
Then there is the 401(h) plan. It’s a type of tax-deductible defined benefit plan that allows money to grow tax free and come out completely income tax free when used for medical expenses. Since one of the largest expenses in retirement will be medical, it’s logical to state that every doctor interested in reducing his or her taxes should consider using a 401(h) plan. Unfortunately, most advisors are not familiar with these plans.
Doctors who can afford to deduct $100,000 or more a year into a wealth-building tool are candidates for the affordable Captive Insurance Company (CIC) structure. A CIC is a unique risk-management tool that provides coverage for currently uncovered liabilities. A medical practice pays premiums to a CIC owned by the doctor. With a good claim’s history, significant wealth builds up in the CIC. When the doctor chooses, he or she can close down the CIC, and the tax on the accumulated assets is at the long-term capital gains tax rate instead of the ordinary income tax rate.
Do be careful with CICs. They are being heavily marketed right now in the medical community, and many marketers are on my “do not use” list.
The stock market
Most people do not think of the stock market as a creditor. But let me ask you the following questions: 1) Did you lose money in the stock market from 2000 to 2002 and again in 2007 to 2008? 2) Are you more likely to be sued this year or lose money in the stock market?
Most readers will answer “yes” to the first question and “in stock market” to the second question. I see the stock market as a creditor because you can lose hundreds of thousands of dollars in the market.
Over the last 20 years the average investor earned less than 4% on his or her money in the stock market, according to a 2010 DABLAR study.
What if there was a product that would guarantee that your money would grow at 6% to 7% for 10 to 20 years (depending on the product) coupled with a guaranteed income for life based on a 6.5% payment rate at age 75? Would you want to allocate money into such a wealth-building tool? That tool is called a Fixed Indexed Annuity (FIA) with a guaranteed income-for-life rider.
What if there was a wealth-building tool that would never let your money go backwards in down years, lock in your gains every year (up to a cap of 17%), and allow your money grow tax free and come out tax free in retirement? Would that interest you?
I am talking about a properly designed Equity Indexed Universal Life (EIUL) policy. And when the S&P 500 stock index averaged a negative 1.45% from 1998 to 2008, the EIUL returned a positive 5.91%. Unfortunately, most financial planners are not familiar with EIUL policies.
Long-term care expenses
For most seniors, their biggest expense comes in the form of medical expenses. With the costs of drugs going up and up and the costs to stay in a nursing home reaching astronomical figures, it’s no wonder many seniors cannot pay their bills.
Good asset protection planners and good estate planning attorneys will counsel their clients to find the money to purchase Long-Term Care Insurance (LTCI). The younger you purchase it, the less it will cost. LTCI is needed more than any other type of insurance besides life insurance. Clients who own C-corporations can pay for LTCI in a 100% tax-deductible manner and in a discriminatory manner.
Additionally, many EIUL policies I just discussed come with a free LTC rider on it, so you can kill two birds with one stone if you use it (risk-free wealth building and LTC coverage). Let’s also not forget about the very powerful 401(h) plan that allows tax-deferred money to grow tax free and come out tax free for medical expenses.
The bottom line
The goal of this article is to give readers some baseline information on a few tools that should be considered when putting in place a “complete” asset protection plan, but really this article was drafted to motivate readers. Why motivate? Most doctors I come into contact with know they need to take steps to protect and grow their wealth, but for whatever reason, many have trouble taking action.
Roccy DeFrancesco, JD, is the author of the Doctors Wealth Preservation Guide (350 pages), which was recently approved for up to 21 AMA PRA Category 1 Certified Medical Education (CME) Credits™ in a self-study format. To learn more about the topics covered in this article while being able to earn CME credits in the process, email him at firstname.lastname@example.org. Physician’s Money Digest readers can get the book at a discounted rate or 33% off the $150 retail price.