Wealth Preservation: Protect Your Treasures

Ed Rabinowitz

Physician's Money Digest, December15 2003, Volume 10, Issue 23

The concept of preservation isnot new. The ancient Egyptiansbegan preserving human bodiesyears ago. The art of preservingfruits or vegetables by cooking them withsugar continues as a domestic tradition.

We also preserve items that we holdto be of particular value. Why should itbe any different with the wealth we haveaccumulated? With the economy only recentlyshowing signs of recovering from amultiyear slumber, many individuals haveshifted their focus from growing theirassets to simply maintaining them.

"Wealth preservation is very much aconcern today," says David Borden, directorof investments for CCR WealthManagement. "In the late 1990s, all youhad to do was invest in your retirementplan. Those things were on cruise controlthen. I think that the past few years inparticular have been a wakeup call."

Wealth preservation is the protectionof both business and personal assets,whether for the purpose of living offthose assets during retirement years orpassing them on to heirs or charities.

Financial Plan Development

Wealth preservation starts with developinga solid financial plan. Examinewhere you stand. Uncover all the assetsyou've accumulated, as well as the debts,liabilities, and potential risks. You have tounderstand your entire financial picturebefore you can best determine how toprotect it. And chances are, the furtheralong you are in your career, the moreassets you've accumulated—assets thatwill need to be protected.

"It's important to come to grips witha reality of the future," Borden explains."And I say ‘reality' because a lot of physiciansthink they'll always be able to earnthe money they're earning today. Butthose earnings won't go on forever."

Too often, individuals look at financialplanning and they immediately thinkabout investment management. In reality,the primary issues are not how you manageinvestments, but how you managepotential liabilities and protect assets.

Bradley Bofford, ChFC, of FinancialPrinciples, LLC (www.financialprinciples.com), suggests that wealth preservationfor physicians encompasses morethan just traditional planning. A properfoundation, he says, is the first thing thatneeds to be addressed.

"It's like having a filing cabinet, wherethe bottom drawer is your protection, themiddle is savings, and the top is growth,"Bofford says. "And the protection drawer,that's like the moat around your castle."He explains that getting physiciansto focus on the protection aspect is difficult because the savings and growth componentsare more exciting. "But if anythinghappened, such as a disability or alawsuit, that could throw all their otherplanning out the window."

The protection aspect encompassesnumerous elements, including car, home,liability, disability, and life insurance. Forexample, if you were in a car accident andsomeone sued you, what is your humanlife value? What if someone slipped onthe sidewalk in front of your home orpractice? What is your earning capacityfrom now until you plan to retire? It'simportant to make certain that youexamine all the possible scenarios.

It's also important to examine howyou title your assets, says Bard Malovany,CFP®, of Financial Council, Inc. Withyour practice, it might make sense to titlethe assets in the name of a partnership ora limited liability company (LLC) so thatthe property—whether it's your actualplace of business or a rental property—isowned by an entity other than yourself.

"If someone falls and breaks a leg,they can sue the partnership that ownsthe property, but the doctor doesn't ownthat property," Malovany explains. "Itprovides insulation against litigation."

Goal Determination

Accumulating wealth and preservingit is only a part of the equation. The second,more important aspect, is controllingwhat happens with that wealth. Is itintended to protect and care for you andyour spouse during your retirement years,or are you more concerned with transferringthe assets to your heirs? Answeringthat question will go a long way towarddetermining your preservation strategies.

For example, if you're concerned withprotecting you and your spouse for therest of your lives, there's the nursinghome and long-term care (LTC) factor toconsider. One of the greatest costs in thelater years of life is that of LTC.

While costs can vary, Malovany estimatesthat nursing home care can cost inthe neighborhood of $200 a day, or closeto $70,000 a year. If you or your spouseis in a nursing home for 5 years, that's afair amount of money. LTC insurance is agood way to cover those costs.

However, if your goal is centered onmaintaining assets to pass them along toheirs, it's important to put trusts in placeto transfer your wealth. One popular andsuccessful approach is purchasing a second-to-die policy and placing it inside anirrevocable trust. "Economically," saysRandy Herz, senior vice president andchief financial officer of Herz Financial(www.herzfinancial.com), "it's the simplestway to transfer your assets."

A second-to-die policy is held on twopeople and doesn't pay off until bothhave died. Placing it in an irrevocabletrust means that it won't be taxed as partof your estate. When the second spousepasses on, the policy provides a cash paymentto cover taxes that might be due ona large estate. Your heirs will then inherityour entire estate without tax liability.

Another effective means of preservingand transferring wealth, particularly ifyou are philanthropically inclined, isthrough a charitable remainder trust. Assumethat you have assets worth $1 million.You set up a charitable remaindertrust and give that asset to the trust. Thenyou have the trust sell the asset for $1 millionand pay you, over the remainder ofyour lifetime, a set annual percentage thatdoesn't eat away at the $1-million principle.Next, you designate a charity to receivethe trust's principle when you die.By doing so, you will receive a tax deductionfor the year in which you set up thetrust. You can then use the money fromthe tax deduction to purchase a $1-millionsecond-to-die policy that will be paidto your children after both you and yourspouse pass on. In effect, everybody wins.

Value of Your Practice

For physicians owning their ownpractice, a good method of protectingbusiness assets is to distribute earnings asfrequently as possible. Malovany explainsthat practices tend to retain earnings, butthe objective from a wealth preservationstandpoint is to have as little assets in thepractice as possible.

Otherwise, in the event that you aresued, those assets are subject to the liabilityof creditors. "In addition," Malovanysays, "if your practice is owned as a limitedpartnership, you can gift limited partnershipinterests to your children orgrandchildren. And because they don'thave control over those assets, the valueof that partnership interest would be discountedby a certain percentage, dependingon who is providing the valuation."

For example, if you put $1 millionof property into a limited partnershipand gift the limited partnership assetsto your children, but value those assetsat $700,000 because of the discountthat applies, you are removing $1 millionfrom your estate for the price of$700,000. "It's an effective way of transferringassets to future generations whileinsulating them from liability."

Along those lines, Borden explainsthat it's very difficult to place an accuratevalue on a practice today. As such, doctorsneed to come up with a proper exitstrategy so that they gain the most valuefrom their practice. "In the 1980s, youcould sell your business for a premium,"Borden says. "That was before HMOs.Now, there's nothing really tangible tosell. No one is coming in and buying apatient base the way they used to."

The answer, Borden says, is to plan anexit strategy early on, perhaps six yearsbefore retirement. "Young doctors don'thave the cash flow to pay you what youbelieve the practice is worth. If you bringthem in early enough, you'll have a betterchance of transitioning patients so yougain more retention. That will make theyoung doctor more successful and betterable to buy you out."

And where your practice is concerned,don't forget about some veryimportant aspects of the 2 types of disabilityinsurance (ie, key-person and business-overhead disability insurance). Keypersoninsurance comes into play whenyour practice employs a valued physicianor specialist. What would happen to thepractice's ability to generate revenue if ithas lost a valued specialist for any lengthof time? Disability coverage is purchasedon that key person so that if the individualwere ever temporarily disabled, thepractice could hire someone to fill theposition until they returned to work.

Business-overhead disability insuranceis generally held on the owner of acompany, where in many cases thatowner is the sole proprietor of the business.The idea here is that if you, theowner of your practice, are unable towork, the insurance pays the continuedbusiness expenses so that you have a businessto come back to. Otherwise, if youwere unable to work for a considerableperiod of time, business expenses couldrapidly eat away at the assets your practicehas accumulated.