Target Practice Anyone?
Smart Asset Protection Strategies
By Lee and Kristy Phillips
If you graduated with a professional degree, when they put the hood on you at your graduation ceremony, you didn’t realize they were actually hanging a big bull’s eye target on your back. If you are a small business owner, when you printed the T shirt or uniform for your employees to wear, the clothing company put a big bull’s eye target on each piece of clothing. Oh, you can’t see it, but all your customers can. Today, lots of people wear the big bull’s eye, and they may not even know it. Once the bull’s eye goes on, you are the target for lawyers, the tax man, your customers, the investment “gurus”, and others. The threats of frivolous lawsuits, expensive, time-consuming court proceedings, outrageous taxes, bad business partners, greedy financial advisors, and others who have there hand in your pocket or knife in your back are real threats to your financial well being.
You probably find yourself yearning for the good ol’ days when you worried about helping people instead of keeping your back to the wall. To practice as a professional or be in business today, you need two lawyers and an accountant strapped to your hip for protection. Obviously you can’t return to the past or carry counsel around with you, but by using tried and true legal techniques, there are simple things you can do to make yourself a less appealing target.
The following asset protection strategies are only a few of the simple things you can do to minimize your financial exposure.
Separate your assets. Smart tourists place their money and valuables in multiple pockets, purses, or wallets to keep a pick-pocket from snatching everything in one quick steal. You need to divide up your assets and place them in multiple “pockets,” so the bandits can’t take down your fortune with one rifle shot.
Instead of dividing up their assets, most people provide a direct path to their wealth, which is all held in one big pocket. Avoid owning your assets in joint ownership. Each joint owner is a pathway through which a strike can be made. Don’t make the mistake of owning all of your real estate, accounts, cars, and other assets jointly with your spouse. When you own your business ventures with your spouse as a director, partner, vice president, or other officer, if the business fails or is sued, both you and your spouse are open to attack, and all of your individual and joint assets are exposed.
Assets and ventures that have a high likelihood of lawsuits or bankruptcies should be “owned” by only one family member. Never have your spouse’s name be associated with your professional practice or business. As the professional, you usually cannot avoid liability for suits that involve the “business” conducted in association with your practice or malpractice. Therefore, you will always be a target. Non professional business owners can protect themselves from business activities by using a corporation or limited liability company (LLC). Actually, professionals should always have their business run as a corporation or LLC. The entity may not protect you from your malpractice, but it can protect you from acts not related to your “practice” of your profession. For example, if there is a slip and fall in the office, you would be protected from this business problem that wasn’t a direct result of your “practice.”
You and your spouse can each become a separate “pocket” for your assets. Because you have the bull’s eye on your back, you should be the sole owner of the risky assets and ventures. The home, big savings accounts, brokerage accounts, real estate limited partnership interests, and other assets that have a low probability of risk should be “owned” by your spouse or family members. In many cases, this division of property protects at least a good part of the family’s property from the attacks of lawsuits, creditors, and even the IRS. If you live in a community property state, you will have to use family members in preference to your spouse, because the assets of one spouse are automatically legally tied to the other spouse.
Be shrewd with your banker. Going along with the “separate pocket” theory, don’t open up more pockets than necessary for your banker to look into. When you apply for a loan, never pledge more property than is absolutely necessary to secure the loan. You don’t have to list everything on the application. Your salary will often be sufficient. Never list your spouse’s property on the application, unless you just can’t qualify otherwise. The property listed as security can readily be taken by the lender if you default on the loan. Of course, you never think that you will default on the loan, but it does happen. Never have your spouse sign on a business loan. They will try to pull the spouse in by getting both signatures, but hold your ground. If they aren’t an officer or director, they usually don’t need to sign.
When you apply for a loan, find out what the banker will require as the minimum amount of security necessary for you to be approved for the loan. To persuade the banker to tell you the minimum amount of security you will need to pledge, you may need to make the banker think you will have a hard time coming up with enough property. However you do it, you need to determine the minimum amount of property necessary to secure the loan. This may be the opposite attitude you have usually taken with the banker. When you find out what the minimum is, don’t list any assets other than those necessary to meet the minimum security amounts.
Don’t brag to the banker about your wealth. If you say you have $6 million in property, the banker will want all $6 million as security. Flashing around big asset sheets is foolish and unnecessary. Keep your wealth private. It could save you a lot of grief someday. When the big lawsuit comes, the first place the attorneys will go is to your loan applications to see what assets you bragged up to the banker. Even on a personal (non-business) loan, don’t have more than one family member sign the business loan or business documents, then in most states only the signer’s property is available to satisfy the loan if disaster strikes. Don’t commingle your assets with your spouse’s assets on loan applications. Seldom do you actually both have to apply for the loan.
Choose your attorney and accountant wisely. Don’t be afraid to look for a competent professional when it comes to important legal and tax advice; good professionals will give you service worth much more than their fees. Remember, a good professional is always cheaper than a bad professional in the long run. Choose a responsive professional who has a proven track record, who actually cares about you, and answers your questions and concerns. The secret is, you must know enough to control them and not be controlled by them. It is amazing how bright people are controlled by professionals, because they haven’t done their homework, even though they are bright. Fees can be kept to a minimum if you educate yourself. One of the basic themes of Protecting Your Financial Future is that you can’t just blindly trust your advisors. Really rich people never just blindly trust their professional advisors.
Cars cause trouble. The owner of the car is always a target in any lawsuit that results from the use of the car. The owner always gets sued even if he or she wasn’t in the car when the accident occurred. Never have two names on the title to a car. Have the husband own the car he drives most of the time and have the wife own the car she drives most often. If you have to help one of your kids by throwing your financial weight behind them when they go to get a car loan, don’t put your name on the title to the car. Simply sign the loan as “guarantor.” Secure your interest in the car by having the child sign a note saying they will pay you back. You can get a copy of a note to use at the local office supply or stationery store. To protect your interest, you should file a security interest or lien on the title to the car. The bank doesn’t put its name on the title to secure its interest, so why should you?
Use multiple legal entities. Trusts, corporations, limited liability companies, and limited partnerships can all help provide asset protection. They are “other pockets” that you can use to help keep your wealth safe if disaster strikes. The use of trusts is a particularly important wealth-building technique, because it is easy and it is the basis for your estate planning. Protecting Your Financial Future teaches you in great detail how to use trusts. When you and your spouse are acting as two separate “pockets,” in order to enhance the privacy and avoid probate if either you or your spouse were to die, use a living revocable trust. Protecting Your Financial Future goes through the steps of using a living revocable trust to achieve a division of assets for asset protection purposes. The attorneys that draft living revocable trusts almost never build any asset protection in them for you. By the way, Fortune Magazine reports that less than 1% of American lawyers know how to draft a good living revocable trust. (Remember, you can’t blindly trust your advisors.)
For asset protection purposes, it is important to use two individual trusts—one trust for you and one for your spouse. The two trusts can be created using a system of two separate pieces of paper or by using a joint trust which establishes separate trust divisions for you and your spouse. Once the two trusts are established, divide your wealth evenly or stack the wealth with the spouse (the spouse’s trust) that is least likely to be exposed to legal attack.
A spouse that is a professional or runs a business is especially open to attack, so plan on stacking the wealth in favor of the other spouse. If one spouse is attacked by someone through a lawsuit, the other spouse’s trust is beyond the reach of the suit, as long as the other spouse cannot be drawn into the lawsuit or you live in a community property state.
Dividing the estate into two trusts does not give total protection if one spouse gets sued, but it can certainly help protect half of the estate. It is a step which is easy to take. I have seen it save a family’s financial future in many cases. A properly written living trust gives you and your family control of your assets, without legal action, even in case of death or incapacitation. A good trust also allows you to avoid expensive, time-consuming probate, which solves the biggest problem associated with the division of property and business ownership between spouses. Other benefits include privacy, some asset protection value, and significant estate tax savings. However, you should note that most trusts, even well drafted ones don’t work, because just having the piece of paper (the trust document) isn’t enough. You have to learn how to use the trust, and the attorneys never give you that information, because if you don’t use the trust, the attorney gets the fees for setting up the trust and the fees for solving your probate and asset protection problems, when the problems occur.
Start with the two trusts as your two “pockets” and then move to the limited liability company or the family limited partnership to create more pockets in your personal life. Of course your practice and business ventures should each be kept in their own “pockets.” Holding assets in various “pockets” can make the target hanging on your back a lot harder to hit.