You’ve worked hard to build your assets. You don’t have to work quite as hard to protect them, but a good asset protection plan requires knowledge and attention to detail. If you do not establish and optimize your asset protection plan, a lawsuit or other unfortunate event could wipe your assets out entirely. There’s no one-size-fits-all plan. If you want to know how to protect your assets, there’s a custom-tailored optimal plan for you. So, talk with an experienced consultant.
How you structure your business makes all the difference in protecting your assets. If you’re a one-person business, a sole proprietorship is the easiest way to go – but don’t do it. Sole proprietorship doesn’t distinguish between business and personal assets. Should the enterprise fail or a customer sues your business, creditors can come after your personal bank accounts, home and other assets.
A Limited Liability Company or LLC, makes far more sense for asset protection. An LLC protects you from personal liability. It can consist of members, but not shareholders. The IRS doesn’t consider an LLC a taxable entity by default, as its proceeds pass to the members. The members are responsible for paying tax on company profits. When you operate your business as an LLC, its members are self-employed and must pay self-employment tax on ordinary income. This includes Social Security and Medicare. Some exceptions are rental income and capital gains, where theses two taxes do not apply. Members report all income on their personal tax returns. By appropriately filing an 8832 form the LLC can be taxed as a corporation. In addition, if a 2553 form is filed, an S corporation. Regulations vary by state, but an LLC is inexpensive to set up.
Another business structure for asset protection is the S Corporation. According to the IRS, an S Corp is a corporation “that elects to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes.” S Corps are not required to pay federal corporate income tax on profits, unlike larger “C” corporations, but may have to pay state income tax. The IRS limits S Corps to 100 shareholders, who must all have U.S. citizenship or legal resident status. Individuals qualify as shareholders, but not partnerships.
S Corp shareholders report income on personal tax returns, taxed at their individual rates. US for-profit corporations are C corporations by default. In order to turn a C corporation into an S corporation, the most common scenario is that you file a 2553 form with the IRS. You must do this within 75 days of formation or within 75 days of the beginning of the year in which you desire S corporation status. One downside – the IRS may scrutinize S Corps more than other small business structures.
With LLCs and S Corps, you must always maintain the corporate veil for asset protection. That means having annual shareholder’s and director’s meetings and writing minutes for those meetings. You keep resolutions for major corporate decisions in a written format. That also means no mingling of personal and corporate assets. All corporate assets require proper titling, and you must use corporate checking accounts and credit cards to pay business-related expenses and a personal checking account and credit card to pay personal expenses.
Most states have a homestead exemption for lowering property taxes, but several have homestead exemptions protecting the primary home and its equity from creditors. That’s something to take into consideration if you plan to move. Florida has one of the liberal homestead exemptions, protecting up to a half-acre property within a municipality – and up to 160 acres in rural areas. However, that exemption doesn’t apply to any lenders holding a mortgage. In Texas, an “urban” homestead of up to 10 acres is protected, while an exempt rural homestead consists of 100 acres for an individual and 200 acres for a family. Texas law also exempts from seizure up to $60,000 worth of personal property for families and $30,000 for a single person. Again, the exemption doesn’t apply to mortgage lenders.
If you don’t live in a state with a generous homestead exemption from creditors, protect your home via proper titling. If you are married, your home’s title should read “tenants by entirety.” If there’s a judgment against one of you, the creditor can’t collect against the property. To optimize your asset protection plan even further, you can put your home into a land trust. This gives you privacy of ownership. We often employ equity stripping programs where we set up LLCs that you privately own and record a home equity line of credit type of mortgage against the home. Then, if need, there is an international institution that can buy the mortgage for cash. They place the cash into a “you can’t touch it” account in an offshore asset protection trust that we establish for you.
The right type and amount of insurance protects you from losing assets to lawsuits. Inadequate insurance leaves your assets vulnerable. You may have enough insurance on your home to rebuild in case of a fire or natural disaster, but do you have enough insurance to protect you from a lawsuit if someone injures themselves on your property? For example, if your dog bites someone, expect to shell out at least $37,000, according to the Insurance Information Institute. If the dog causes permanent injury or facial scarring, expect to pay out hundreds of thousands of dollars, minimally. Umbrella insurance added to your homeowner’s policy costs just a few hundred dollars a year and provides $1 million or more of additional liability insurance for worst-case scenarios.
States require motor vehicle owners to carry a minimum amount of liability insurance, but minimums don’t go far when a serious accident involving major injuries occurs. Without adequate liability insurance, a lawsuit is virtually inevitable. Make sure you have sufficient coverage. Be sure if you bundle your home and auto insurance with the same company, that umbrella insurance covers such catastrophes.
Although it won’t benefit you directly, make sure you have adequate life insurance to protect your family. Life insurance is especially necessary if you are the sole or primary breadwinner. Your spouse or dependents may have to start selling off assets quickly if there’s no life insurance cushion. Sit down with an insurance agent every few years to review current income, asset-to-debt ratio and future plans. A good look at the numbers will determine how much and what kind of life insurance you need.
Your 401(k), IRAs and similar retirement accounts may make up the bulk of your assets. The good news is that most states protects these assets from creditors. However, if you fail to pay child support – or the IRS finds you owe taxes – your retirement accounts are at risk. The 2005 Bankruptcy Abuse Prevention and Consumer Protection Act extends bankruptcy protection for retirement assets to up to $ 1 million. However, that does not include inherited retirement assets, unless the heir is a spouse. California offers weak IRA protection that attorneys can easily penetrate with sufficient arguments showing that the debtor can attain sufficient retirement income from elsewhere.
To optimize your asset protection plan, you should also incorporate estate planning into the mix. For example, to avoid the probate process, put your assets in a revocable living trust. Although the trust now owns the assets, you as the grantor and/or trustee control them just as you did when they were in your name. You can buy, sell and add assets to the trust during your lifetime. Once you die, the trust becomes irrevocable and can’t change. Your assets go to your named beneficiaries. However, such a trust cannot provide asset protection. A trust that can provide asset protection is the Domestic Asset Protection Trust, or DAPT. Only 16 states permit such trusts.
While creditors can’t access a DAPT, it is an irrevocable trust and has an independent trustee. That means you are not the person controlling the DAPT. Based on state law, certain creditors can access DAPTs. These include former spouses demanding child support or alimony. Certain states allow a tort creditor to access a DAPT. For example, let’s say you are a doctor facing a malpractice case and create a DAPT to shield assets. A plaintiff may collect a judgment from the DAPT if you established the trust after the alleged malpractice incident, without the sufficient passage of time. On the other hand, Offshore asset protection trusts have the benefit of being outside of the reach or US courts. So, they have proven themselves much more effective at protecting assets.
You can make have a first-rate asset optimization plan in place, and lose your assets in old age if you or your spouse requires long-term nursing home care. Failure to disclose assets to Medicaid is a criminal offense. In a worst-case scenario, you would have to spend down virtually all of your assets with the exception of your home, one motor vehicle and $2,000 in the bank, although that number is somewhat higher in certain states. Protecting assets from Medicaid is possible, but it’s a process to start well in advance. Any gifts made to children or others within 60 months – five years – of the Medicaid application are penalized. Reducing your countable assets by giving funds to loved ones must happen prior to that five-year window and with consideration of potential tax consequences.
These are just some ways to optimize your asset protection plan. Life would be easier if we knew what it will throw at us, but that’s not the way it works. There are always people lurking about knowing it is easier to take your money than to work to earn it themselves. Don’t let yourself become a victim of the legal system. Protecting your assets to the best of your ability can shield you from most of these fears.
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Jane Meggitt, New York University, Staff Writer