Asset Protection: Not Losing Your Shirt in a Claim

 What is Asset Protection for Physicians?Asset protection has two main aims, the preservation of assets and the minimization of potential liability. Physicians know all too well the devastating affects that a malpractice claim may have on their assets. However, there are many other potential liabilities to consider as well, such as: automotive liability, liability arising from rental property, liability from serving as an officer or director of a company or charitable organization, and contractual liabilities. Claims for negligence, discrimination, and harassment are additional threats. Finally, divorce may drastically reduce ones assets.

Misconceptions exist about what constitutes asset protection. Asset protection does not involve evading taxes, hiding assets, or defrauding creditors.

How to Minimize Potential LiabilityInsurance: Having the correct amounts of malpractice and other types of insurance, such as vehicle and homeowner’s, is one step in minimizing liability.

Choice of entity: Engaging in a general partnership, whether medical or for any other purpose, drastically opens one to liability. Since all general partners are usually liable for the acts of any of the general partners when they are acting in furtherance of the partnership, a small investment can open one up to significant liability. However, there are many other entity types that offer better protection. Depending on your state, the following entities may be the appropriate choice for your practice: limited liability company, professional limited liability company, or professional corporation.

Investment Choices:Consider carefully whether to invest in businesses where you are likely to be sued. Owning rental property can expose you to significant liability if someone is injured. If you chose to invest in rental property, an LLC or other entity should be formed to hold the property. The idea is to “isolate” the property and “insulate” yourself from potential liability.

Home, Life Insurance, IRAs and Pension Plans: The family home, retirement accounts, and life insurance enjoy different levels of creditor protection as dictated by the state law. In some states, such as Florida, homestead is a traditional protection of the family home from creditors. In these states, the homestead provision offers an additional asset protection option. However, in Maryland, Virginia, and D.C., homestead is of little relevance. Generally, IRAs and ERISA benefits are at least partially protected. Normally, life insurance proceeds are also protected from creditors. Thus, these may be good and safe forms of investment to the extent they are protected from creditors. Again, what state you live in determines the extent of your protection.

Maryland:

Homestead: There is no homestead exemption. However, property that is held in tenancy-by-the-entirety may be exempt from the debts and creditors of one spouse.

Life Insurance Policies: Proceeds, cash surrender values and loan benefits are exempt, if the beneficiary is the spouse, child or other dependent of the debtor. Disability benefits are also exempt from creditors.

IRAs & Pension Plans: IRAs are exempt. ERISA qualified benefits are exempt. State employee pension plans are exempt.

Virginia:

Homestead: $5,000 plus $500 per dependent, but a couple may double the amount. Property that is held in tenancy-by-the-entirety is exempt from the debts and creditors of one spouse.

Life Insurance Policies: Group life insurance annuities and cooperative life insurance proceeds are exempt.

IRAs & Pension Plans: IRAs are exempt up to the amount that would produce a retirement benefit of up to $17,500, per year. ERISA qualified benefits exempt.

District of Columbia:

Homestead: There is no homestead exemption. Property that is held in tenancy-by-the-entirety is exempt from the debts and creditors of one spouse.

Life Insurance Policies: Individual life insurance proceeds are exempt when the beneficiary is not the insured. Group life insurance is also excluded when payable to all employees.

IRA & Pension Plans: IRAs are exempt. ERISA qualified benefits are exempt.

How to Protect Family Assets:Hold Assets as “Tenancies by the Entirety”: In D.C., Maryland, and Virginia it is possible for a married couple to hold both real and personal property in this form. One advantage to this form of ownership is that on death there is an automatic transfer to the surviving spouse, thereby avoiding probate. A second advantage is that the creditors of one spouse cannot collect against property held in this form. One disadvantage is that if the non-debtor spouse dies, then there is no creditor protection for the debtor-spouse. A second disadvantage is that property held as tenants-by-the entirety will normally be treated as marital property in the event of a divorce. Please also note that planning for estate tax purposes may be more difficult when holding property as tenants-by-theentirety.

Self-Settled Asset Protection Trust: This is an irrevocable trust which someone creates for himself or herself. The purpose is then to protect and shelter your assets from future creditors before any creditor issues arise, as well as to provide some estate tax planning benefits. A Trustee is appointed to have discretionary authority to act for, and to make distributions to, you and your family. You cannot keep control of the trust. Traditionally, these types of irrevocable trusts were not effective. However, many offshore jurisdictions and six asset protection friendly states, i.e., Delaware, Alaska, Nevada, Utah, Rhode Island and Wyoming, have laws that allow these types of trust. Consequently, a self-settled asset protection trust may be the ideal choice for physicians, and other professionals who are members of professions which invite frequent lawsuits and possible creditor attachments.

Family Limited Partnership or Limited Liability Company: These entities change the form of ownership of assets. Due to the nature of the interest retained, a creditor normally may only obtain a “charging order” against your interest. A “charging order” makes the creditor the beneficial owner of the interest. Once the “charging order” is granted, the creditor is entitled to all distributions. However, even if no distributions are paid, the creditor is liable for all income taxes associated with the undistributed income. These entities may also provide some estate tax planning benefits.

Legacy or Dynasty Trust (also often called a Spendthrift Trust): This is a type of irrevocable trust created by someone else, with their assets, for your benefit. This type of trust also minimizes or eliminates the estate taxes that will be paid upon your death. Although a beneficiary can legally be the Trustee or Co-Trustee of this type of trust, for credit protection purposes, it is better to have an independent third party serve as Trustee (most preferably a corporate trustee in an asset protection friendly state). The beneficiary or close friend of the beneficiary may be given the authority to remove and replace the Trustee, as well as potentially the authority to direct the investments of the trust.

If you are comfortable with your parents, or anyone else from whom you are likely to inherit, consider requesting a Spendthrift Trust for your benefit, since assets received outright may be subject to creditor claims. A recent decision by the Maryland Court of Appeals emphasizes the high degree of creditor protection the beneficiaries of a Spendthrift Trust enjoy. Duvall v. McGee, 375 Md. 476, 826 A.2d 416 (Md. 2003).

 Update Your Asset Protection Plan:Understanding your asset protection plan is essential to its success. The plan developed today may not be the “best plan” several years down the road. First, tax law changes and legal developments may alter the effectiveness of certain mechanisms. Additionally, life changes will affect your plan. Marrying, having children, and receiving inheritance require a comprehensive review of your plan. As your practice grows, additional wealth may require estate planning techniques to avoid or minimize the affects of death taxes.

Starting the asset protection process early in your career, not only increases protection from liability, but empowers one to plan for the future.

 Don’t Forget About Estate Planning:Starting the estate planning process with a goal of asset protection can yield both an effective long-term estate plan and increased protection from creditors. Basic estate planning documents include: Will, Durable General Financial Power of Attorney, Advance Medical Directive (including a Health Care Power of Attorney and a Living Will), and possibly a Revocable Trust.

Will: A Will is a document that only takes effect when you die and directs how your individually owned assets will be distributed when you die.

Durable General Financial Power of Attorney: A Durable General Financial Power of Attorney is a separate legal document that allows you to appoint a substitute decision-maker or agent to act on your behalf for financial types of decisions. A Durable General Financial Power of Attorney allows you to avoid the court costs, legal fees, time and aggravation of going to court to appoint a Guardian or Conservator should you become legally incompetent or disabled.

Advance Medical Directive: A Health Care Power of Attorney allows you to appoint a substitute decision-maker or agent to make health care decisions for you if a physician determines that you are "incapable of making an informed decision". Your selected agent may refuse or terminate treatment for you when you are either terminal or in a non-terminal state (e.g., persistent vegetative state or coma). Therefore, it is broader than a Living Will.

A Living Will declares your desire that life-sustaining treatment be withdrawn or withheld under certain specific medical conditions. A Living Will may apply to cases where an individual is terminally ill or in a persistent vegetative state. A Living Will only addresses extraordinary medical decisions regarding life-sustaining decisions in cases of terminal illness or persistent vegetative state. A Living Will may also declare your desire that life-sustaining treatment be continued.

Trust: A trust is an arrangement created by a Grantor or Settlor where a Trustee administers and invests assets for the benefit of Beneficiaries. Trusts can be either revocable or irrevocable. Trusts can be created during your lifetime (living or inter vivos trusts) or upon death (testamentary trusts).

A Revocable or Living Trust is a trust which creates a “legal fiction” while you are living. The person who creates the trust (i.e., the Grantor or Settlor) is also generally the Trustee and the Beneficiary. The Grantor retains full and absolute control over the Revocable Trust and its assets and can amend or revoke the Revocable Trust at any time. A Revocable Trust also acts like a Will when the Grantor dies. Upon the Grantor’s death, the successor Trustee distributes the assets to the intended beneficiaries, either outright or in trust. However, a Revocable Trust has the following advantages over a Will:

Assets titled in the name of a Revocable Trust are not subject to the probate process upon death, which saves time and money.

A Revocable Trust can be the beneficiary of life insurance policies and retirement accounts, thereby insuring that your assets are distributed to the proper beneficiaries, at the right time, with the right degree of control and protection.

A Revocable Trust acts like a power of attorney, allowing for the management of the Revocable Trust assets upon the Grantor’s incapacity.

A Revocable Trust is a private way to manage your affairs and to dispose of your assets. Unlike a Will, a Revocable Trust does not become a part of the public court record.

A Revocable Trust is more difficult to contest than a Will.

 Conclusion:The time to begin asset protection planning is before a creditor situation arises. As you begin the process, make sure that the strategies employed fit your specific situation and long-term goals. Encourage your accountant and financial advisor to work with your legal counsel. A collaborative effort often provides for a better plan and an earlier alert to needed modifications.