Asset Protection: A Pathway to a More Secure Future
By Keven DuComb, JD, MBA, Senior Financial Planning & Estate Specialist
Altfest Personal Wealth Management
When thinking about asset protection, many people, especially small business owners or professionals who run their own practice, may first consider their business assets. It’s clear what’s owned and how much is potentially at stake for an owner at the helm of the operation they built.
What exactly do I mean when I bring up protection against personal liability? As the senior financial planning and estate specialist at Altfest Personal Wealth Management, I often introduce clients to this concept, along with tangible steps they can take to protect their personal assets from creditors.
As we explore this topic I offer some tips for people like you, a reminder that Altfest doesn’t provide legal or tax advice. We encourage anyone, as we do with all our clients, to work directly with your attorneys and accountants to execute these strategies.
When people hear “asset protection” they often think of a business protecting the owner’s liability by creating an entity for the business. Many businesses choose to form as a limited liability company (LLC) where the asset protection benefit is stated right in the name.
Whether you choose an LLC or a corporation, it’s important to consider the tax and cash-flow aspects of each entity. Depending on your situation, either option may provide benefits beyond asset protection. In addition, no matter what entity you choose, ensure that you respect the required formalities of the business. This means maintaining good records and ensuring clear and proper movement of money and other assets to and from the business’s owners.
Personal Liability – What Is It?
Today, let’s focus on personal liability. This is the liability that occurs when you are held legally responsible for an accident, which results in bodily injury or property damage. Under what’s called Tort Law, the fancy term for personal injury cases, you’re allowed to recover against those who have caused you harm. This could happen outside of work, but for many professionals, such as doctors and lawyers, your actions at work can be deemed to have caused an injury to your patients or clients. In allowing injured parties to recover damages against a professional, that can include the professional’s personal assets, depending on the rules of each state.
Here, I’d like to talk more about what we can do to protect ourselves from personal liability, above and beyond whatever the state limits might be.
I like to think of a funnel when I talk about asset protection with clients. We start at the top, the widest, broadest part of the funnel, and we work our way down. And as we do that, we go from default baseline strategies and work our way down to more refined and targeted.
Three Forms of Protection
At the top of the funnel, there are three forms of protection:
- Asset titling
- Retirement accounts
If you work in a high-liability profession, it’s likely that your employer is providing malpractice insurance coverage, but you may not know much about how it works, or the associated costs. We encourage our clients to dig a bit deeper and gather that information.
Similarly, you may be worried that your assets could make you a target if you get into a car accident or someone is injured on your property. Often, umbrella insurance coverage is used to add some peace of mind in such cases. There may be situations where you coordinate both types of policies.
With our clients, we’re ultimately trying to analyze a total amount of coverage and approximate cost and evaluate whether this is sufficient or if there is an incremental additional cost that’s worth it for the client.
Another asset protection tool is asset titling. In many states, married couples can title some or all of their property in what’s called tenancy by the entirety. This adds a further level of protection because, functionally, and if applicable, a creditor would need a judgment against both spouses to be able to recover those assets. New York, New Jersey and Pennsylvania all permit this type of titling, but in New York, it only applies to real estate.
The last of the broad asset-protection categories I’d like to introduce is retirement accounts.
The first thing to know is that there’s a dual federal-state analysis with your retirement accounts. So, not only are there bankruptcy laws at the federal level but there’s also this federal law called ERISA, or the Employee Retirement Income Security Act, which contains some built-in creditor protection provisions. ERISA accounts tend to be our employer-provided accounts, most commonly, defined contribution plans like a 401(k) or 403(b). Although note that some 403(b) accounts may not be covered by ERISA. The classic non-ERISA account would be an IRA, or individual retirement account.
Simplistically, if you have an ERISA plan, like most 401(k)s or 403(b)s, you’ll have unlimited protection in bankruptcy and against creditors at the state level. Non-ERISA plans also have pretty significant bankruptcy protection, currently a little over $1.5 million.
However, non-ERISA plans are subject to state law when it comes to claims of general creditors, such as an injured person, so the level of protection can vary greatly state-to-state. Some states may also distinguish between Roth IRAs and traditional IRAs and assign greater protection only to traditional IRAs.
While we encourage our clients to maximize the benefits of their retirement plans for a variety of reasons, there may be creditor-protection reasons for maintaining balance across the account types.
More Customized Asset-Protection Options
Moving down the funnel, we regularly help our clients analyze narrower and more customized asset protection strategies.
For small business owners that operate out of a building or real estate that they own, one straightforward strategy is asset siloing.
Typically, the client would move the real estate into a separate LLC and then lease the property back to the operating business. By separating the property from the business, any liability of one entity will not cross over to the other entity or the individual owners.
Similarly, the asset itself is protected from individual creditors. For instance, if you incur personal liability, your creditor may be able to recover against income you receive from the LLC because you own the LLC, but they wouldn’t have a claim against the real estate itself, because that asset is owned by the LLC, not you individually.
We’ve also started to see this as an option for other types of unique assets, such as a patent or other intellectual property you own, especially if it’s valuable. Just like real estate, these assets can be assigned to an LLC, which can license it to your own business or other businesses. I’m even seeing some situations where this approach could be employed to shield valuable intellectual property used in social media and marketing, such as the intangible assets of an “influencer.”
Using Lifetime Revocable Trusts
If you’re a client who is worried about asset protection, you’re probably going to benefit from having a trust-based estate plan. A revocable trust serves as the bedrock of your estate plan and while there is no immediate creditor protection when you create and fund a revocable trust, the plan can be customized to include creditor protection in the future.
These trusts can address contingencies, like the untimely death of a spouse. If that occurs, your spouse’s trust can set up a credit shelter trust for your benefit. By planning ahead with a trust-based estate plan, you can convert what would be personal, marital assets into assets that creditors can no longer claim. All the while still maintaining a benefit from those assets.
Similarly, asset protection for your children can be built into your revocable trust plan. This can be helpful either if something happens to you while your children are still young or even in cases where your children are professionals themselves and could benefit from having an extra layer of protection over their inheritances.
Irrevocable Trust Planning
Last, irrevocable trusts are the most tailored and customized option in the personal asset protection context. Frequently, the irrevocable life insurance trust (“ILIT”) is the first option we discuss with clients. The ILIT is a shell trust that owns a life insurance policy on your life while you’re alive. You can move money out of your estate into the ILIT to assist the ILIT in paying the insurance premiums. At your death, the ILIT receives the death benefit payment into the trust, and you can customize how and who would benefit from the proceeds at that time.
Remember too that a life insurance death benefit is tax-free. In essence, you are converting some of what could be taxable dollars that are vulnerable to creditors into a tax-free benefit for your descendants or desired beneficiaries.
In addition to the ILIT, there are numerous other complex irrevocable trusts that may be suitable for your situation. They all share the primary traits of proactively removing assets from your estate and from the reach of potential creditors. These can be designed to optimize tax benefits, and, in some cases, they can be designed to provide a continuing benefit to you or your spouse in the future.
Find Out More
At Altfest, we stand ready to help you find the most suitable ways to protect your personal assets from liability. We know everyone’s scenario is unique, so reach out to our firm with any asset protection or financial or estate planning questions you may have. Altfest advisors will review your circumstances and offer ideas about which asset protection strategies could best serve you and your family.
If you’re not yet an Altfest client, please book some time for a complimentary consultation.