Equity stripping asset protection strategies provide a brilliantly simple yet effective way for debtors to shield their assets – often real estate – from creditors. Below, we go into detail about the practice of equity stripping, including how it works, different strategies, benefits and drawbacks, and common misconceptions.
While equity stripping may sound straightforward, it’s more complicated than it seems. Fortunately, you can seek legal advice from an experienced asset protection attorney to help you navigate the process.
What Is Equity Stripping Asset Protection?
For homeowners, the term “equity” refers to the difference between the outstanding loans or liens against a property and its actual market value. In business, equity is the amount of money an owner or investor would receive after a company paid off its debts and liquidated all its business assets.
Equity stripping is the practice of removing equity from an asset, for example, by adding one or multiple liens or additional debt until there is little equity or interest for creditors to acquire. Oftentimes, this involves giving a third party a stake or claim in the property. However, the owner still benefits from the property’s cash flow and typically retains ownership.
How Does Equity Stripping Protect Assets?
Equity stripping protects assets by making them less desirable and harder for creditors to claim through legal action. The debtor takes out a third-party cash loan, and the lender then receives a priority interest in that asset. Once the lender has a security interest in the asset, they gain priority over a creditor’s judgment lien.
The debtor protects their asset (i.e., a property) by reducing its equity. The equity loss lowers the asset’s value and interest, and as a result, most creditors or lenders won’t bother with the extra trouble and effort to levy a legal claim against it.
What Are the Types of Equity Stripping Asset Protection Strategies?
You have multiple ways to approach this method of asset protection.
Homestead Exemption
Homestead exemptions restrict the amount of home equity a creditor can take to fulfill a debt or financial obligation. However, this strategy usually only protects a portion of a property’s equity. Furthermore, exemption guidelines vary from state to state.
For example, Florida doesn’t limit the amount of financial protection homeowners can gain against unsecured creditors.
Home Equity Line of Credit (HELOC)
A Home Equity Line of Credit (HELOC) is another equity stripping strategy. A HELOC allows a homeowner to borrow against their home’s equity while using it as collateral.
As the HELOC will technically become a lien against the property, most creditors won’t attempt an asset collection. Plus, while you can access equity through a HELOC, you don’t have to use the loan proceeds, which means you can avoid taking on more debt.
Mortgages
One of the riskier (yet more effective) strategies for homeowners is utilizing a funded loan via a second mortgage. The lender gains a priority lien against the property, essentially a claim against the home’s equity for the amount the debtor borrowed. Another option for homeowners is refinancing their current mortgage to a higher amount, allowing them to pay off debts.
Sale-Leaseback Transactions
A sale-leaseback agreement is ideal for both commercial businesses and residential properties. First, the owner sells the property to a third party. Then, the original owner leases the property back, allowing them to stay on the property and release equity.
A sale-leaseback protects the property by placing it in a separate entity, but it’s tricky as it must separate each entity enough to stand up in court.
Borrow from a Protected Entity
Another equity stripping method for protecting against creditors involves borrowing money from an entity you own. For example, if you own an LLC, you can borrow money from it and then use the LLC to place a lien against your original property. It reduces the attractiveness of your asset to creditors by adding debt and stripping equity.
Assets That Can Be Protected Through Equity Stripping
Equity stripping is an effective way to safeguard assets from creditors that are either difficult or impossible to move offshore. The most common assets for equity stripping are real estate and property. However, equity stripping is a viable strategy for protecting virtually any type of asset with value, including businesses, LLCs, accounts receivable, etc.
Advantages and Disadvantages of Equity Stripping Asset Protection
While equity stripping has some definite advantages, it’s important to understand its drawbacks, too.
Advantages include:
- The debtor may gain more equity to re-invest.
- It often allows the debtor to maintain ownership or use of the asset.
- It makes assets less desirable to creditors.
- Debtors can use equity stripping with an LLC for more asset protection.
The disadvantages of equity stripping include:
- Equity stripping requires taking on debt.
- Friendly loans or lien arrangements can have tax consequences.
- Certain types of equity-stripping loans are interest rate sensitive.
- Legitimate equity stripping is complex and requires detailed planning in advance.
What Are Some Alternatives to Equity Stripping?
Equity stripping may not be a suitable form of asset protection for you. Below are some alternative strategies to protect assets against creditors:
International Annuities
Purchasing an international annuity is another effective form of asset protection. For example, Liechtenstein and Switzerland have laws that protect annuities from claims against creditors in foreign countries, including the U.S.
Accounts Receivable Financing
Companies with accounts receivable assets can “factor” or pledge the AR asset for a discounted loan against its face value from an institutional investor.
Common Misconceptions About Equity Stripping
Like most things, this method of asset protection comes with a few misconceptions.
It’s Illegal
When done properly, equity stripping is 100% legal – as long as you structure and leverage them correctly and have a genuine and honest intent of protecting your assets.
It’s an Easy Way to Become Debt-Free and Avoid Paying Creditors
Stripping home equity may prevent creditors from making a legal claim to seize your property, but it doesn’t give you a free pass on paying back your debts. You’ll still have the financial obligation to pay back any loans or debts to creditors, but you’ll have peace of mind knowing that your home or property will remain yours for the time being.
It’s Easy to Learn On Your Own
Equity stripping is deceptively tricky, and structuring a legitimate and legal strategy on your own is challenging. Ideally, seeking legal help from an experienced asset protection lawyer is the best way to implement equity stripping asset protection.
Are There Any Limitations to Using Equity Stripping Asset Protection?
While many equity stripping strategies provide effective asset protection, they’re not infallible. For example, homestead exemptions have financial limitations that vary from state to state or depend on the physical size or acreage of the property in question.
In addition, strategies like taking out a second mortgage require the debtor to remain current with monthly interest and principal payments or risk foreclosure of the very home they were trying to protect by taking out a second mortgage. Finally, equity stripping is often an unwise strategy for homeowners facing foreclosure, as investors can take advantage by using the predatory lending practice.
Trust Blake Harris Law for All Your Asset Protection Needs
At Blake Harris Law, we help families and individuals find effective, reliable, and legal ways to protect their assets. If you’re interested in learning more about asset protection through equity stripping, we would love to answer your questions. Contact us online to book a consultation with our knowledgeable asset protection team.
