The old joke about the weather in Seattleâ€”if youdon't like the weather, just wait a minute and it willchangeâ€”highlights the fact that elements out of yourcontrol can cause circumstances to change in the blinkof an eye. Just like the weather, the same holds truewhen it comes to circumstances that could negativelyimpact your financesâ€”but instead of that umbrella,there are asset protection strategies. Greg Reed, directorof financial planning for Smith Frank, suggests thinkingin terms of barriers of protection. "We try to insulatephysician-clients from the financial disaster that couldresult from our increasingly litigious society by creatingas many barriers as possible between the client's moneyand those who would like to have it," Reed explains.
Increase Your Awareness
Some of those barriers include malpractice insurance,large umbrella policies, and the partitioning ofassets between spouses. Reed says that most of hisclients use a mix of these strategies because there is noone-size-fits-all approach to asset protection.
"Each of these areas involve differing degrees ofcost and complication, which must be consideredbased upon the size of the asset that needs protectingand the pain threshold the physician is willing toaccept," Reed says. Careful planning and understandingall options are key steps.
There's no question that physician-investors are moreconcerned with asset protection today than they were10 years ago. Skyrocketing malpractice premiums,lower liability caps on policies, fewer insurance companiesoffering more limited coverage, and the general feelingin American society that someone must pay when amedical procedure does not produce perfect resultsâ€”allhave contributed to a higher level of concern.
Dave Young, president and founder of ParagonWealth Management, points to a startling set of numbers."I read a statistic the other day that said there were 90million lawsuits filed in the US last year," Young explains."Since there are roughly 300 million US citizens, that isabout one lawsuit for every three citizens. The majority ofthose lawsuits are dismissed as frivolous. However, eventhough they are without merit, they still cause a lot ofwasted time and money for the person who they are filedagainst." Clearly, doctors represent a significant chunk ofthose 90 million lawsuits, and with good reason, accordingto Gary Garland, Esq, Garland Law Offices.
Garland points out that, generally speaking, doctorsare great at earning income, but on the whole, many areless than stellar in keeping their earnings and many doctorsare notorious for spending money and investingpoorly. "Couple that with a high-risk profession that isalmost inevitably going to face lawsuits at some point oranother, whether meritorious or not, doctors as a classface financial exposureâ€”often without adequatereserves," Garland says. "Whether it be a moderateincome earner, like a physician, or a high earner andhigher risk provider, such as a surgeon, at some pointlitigation is nearly inevitable."
As a result, physicians have gotten to the pointwhere they're willing to give up yield for protection. AsReed points out, building wealth that is not protectedfrom litigious actions can result in having built nowealth at all. "Every day we discuss with our clients thefact that many types of asset protection measures willeither increase costs through the use of legal entities andthe professionals required to maintain them, or reducereturn due to the additional fees associated with vehiclessuch as insurance products," Reed explains."Whether the cost is increased expenses or reducedreturn, the bottom line is that the net result for thephysician can be a bit less than could otherwise beexpected. We believe that the benefits far outweigh thecosts in terms of peace of mind and financial security."
Asset Protection Trusts
Most advisors agree that one barrier to protectingaccumulated wealth is an asset protection trust. Andaccording to Bruce Fenton, president, Atlantic FinancialInc, using trusts for asset protection is very commonand a practice that has been used for a long time.
Fenton explains that trusts have been around insome form since the days of the Vikings when villagerswould "trust" their money to reputable people inneighboring towns until after the threat of seizure hadpassed. This basic structure became official and legaland has continued through modern times.
Today you trust a trustee, such as a law firm, to holdassets for you in the name of a trust account and notyour own name, so that you personally do not own theassets if you are personally sued. "Today's system ismore complex than the days of the Vikings," Fentonsays. "And thanks to bar associations and modernlaws, you are more than just trusting the reputation ofa trustee, you also are protected by many documentsand rules, which ensure that the funds remain for yourstated benefits."
There are essentially two types of asset protectiontrusts: domestic and foreign. According to Garland,there are some hybrids, such as a domestic trust that isalready established with a foreign trust waiting offshore.If a triggering event occurs, such as litigation, the assetscan be whisked from the domestic trust to the foreigntrust. However, the assets must have already been inplace in the domestic trust, and there can be no priornotice or inkling of the instant litigation. "Asset protectionas a prophylactic measure is fine," Garland says."Asset protection as a response to an immediate situationcan change the doctor's attire to horizontal stripes."
Reed explains that domestic asset protection trustswere created several years ago as a means to provideasset protection via a self-settled spendthrift trust withouthaving to move the assets offshore.
"There has been much debate about how effectivethese trusts would prove to be once they were testedin court," Reed says. "With the changes to the bankruptcylaws enacted via the Bankruptcy AbusePrevention and Consumer Protection Act of 2005, theeffectiveness of these trusts was severely limited. Now,transfers to a domestic asset protection trust within10 years of filing bankruptcy can be deemed a fraudulenttransfer, thus greatly reducing their potentialeffectiveness to achieve asset protection."
Hiding vs Transparency
Advisors point out that there is a big differencebetween hiding assets and making them transparent.How big a difference? Garland, only half-jokingly, saysabout 20 years. "Hiding assets lands you behind barsvs merely thumbing your nose at your erstwhile creditor,showing every penny, and showing how they'reshielded from judgments or otherwise exempt,"Garland says. He offers the following example:
A physician-client had set up asset protection vehicles.Then he entered into a bad business deal andwanted to back out. He was pretty nervous and hadgone to an attorney and spent about $30,000 in legalfees to defend himself. When his assets were moreclosely examined, because of his prior asset protectionplanning, it became clear he only had about $25,000in exposed assets. "Once he understood that, heessentially wrote a check for the $25,000 and walkedaway," Garland recalled. "Of course, if he had cometo me sooner, he could have saved the other $30,000to the other lawyer."
Fenton points out that a well-structured asset protectionstrategy can be quite effective despite its transparency.He calls to mind the situation where O.J. Simpsonlost a large civil lawsuit several years ago, but a goodpart of his assets where held, not in his name, but in hispension fund's name for his benefit. This money was nothidden but known about by everyone involved. It wassimply in a legal structure that was transparent for thepurposes of the lawsuit and, therefore, essentiallyuntouchable. "If someone in a similar position hid assetsby burying them in the backyard or giving a false loanto a friend, this could be illegal," Fenton adds.
A fairly new vehicle has surfaced in the past 2 years;a new type of individual retirement account is helpingdoctors and other high-earning professionals protecttheir IRA if they're sued or have to file for bankruptcy.Unlike 401(k)s and other employer-sponsored retirementplans, IRAs generally aren't protected from creditorsunder federal law. Instead, IRA protection is coveredby state laws, which vary by state. In recent years,a few states, such as Delaware, have also changed theirtrust laws to offer additional protections that mayaffect IRAs.
Two Wilmington, Del, trust companies, NatCityTrust Co, a unit of National City Corp in Cleveland,Ohio, and Capital Trust Co, now offer IRAs that arestructured to take advantage of the state's generousasset protection and trust laws. These IRAs operate liketypical custodial IRAs, where the money is held in abank or investment firm, but they offer the protectionof a trust, which can have special provisions to stave offcreditors. The IRAs are one more method to protectyour assets while keeping them transparent.
Take the Right Steps
Properly structured, asset protection can allow adoctor to practice and live more confidently and possiblyreduce the levels of the ever-burdensome malpracticeinsurance. Reed offers the following goldennugget strategies: The first and most obvious strategya physician should utilize is to purchase the mostaffordable malpractice insurance available. Next, alarge personal umbrella policy should be obtained toprotect your assets from liabilities that might arisefrom an activity outside of the office, such as an automobileaccident.
After securing the appropriate amount of insurance,you should maximize investments in assets that havesome form of asset protectionâ€”state or federalâ€”suchas an IRA, 401(k), life insurance, annuities, homestead,or 529 plans. The level of protection will vary basedupon the state of domicile and must be factored intoany decisions regarding where to place assets."Consider partitioning assets between spouses, especiallyif one is less vulnerable than a physician, such asa nonworking spouse," Reed suggests.
In some states, tenants by the entirety can provideprotection for married persons as long as the creditor isnot a joint creditor. Also, you should consider strategiesto borrow money against the assets of the practice andplace those proceeds in an asset-protected investment.
Lastly, you should have assets via some form oflimited liability entity, such as a family limited partnership,limited liability corporation, or other varioustypes of trusts.
Above all else, coordinating asset protection strategiesamong your lawyer, CPA, and financial advisor iskey. "It is imperative that the plan be coordinated," Young stresses. "Otherwise, it will likely not be fundedproperly, which will negate the entire benefit of theplan. Unfortunately, improper funding and neglect ofthe ongoing maintenance of the plan are the mostcommon problems I see with existing plans. In thosecases, it is as if the plan had never been put in place,and, consequently, there is no asset protection." Andnot having an asset protection plan in place can meantrouble just as surely as the wind shifts and the weatherchanges.