Asset protection is a field of legal practice that takes advantage of existing legal statutes and common law to help protect assets of individuals and business entities from civil judgments. With effective asset protection planning you can lawfully protect assets from claims of creditors without illegally concealing funds or losing control of your wealth. An experienced asset protection attorney can work with you to determine the best strategies and solutions based on your circumstances. This article will examine some of the most common and effective asset protection solutions that you should consider if you are interested in shielding wealth from the threat of a lawsuit.
There are numerous legal methods and strategies available to help safeguard assets. The alternatives range from straightforward transfers such as making outright gifts to family members or funding separate business entities, to creating sophisticated irrevocable trusts in offshore jurisdictions. In most cases there is no single solution that is guaranteed to work, rather a combination of strategies can provide the best mix of control, flexibility, and legal defense. When considering an asset protection plan, it is important to know some of the different legal means than can help protect your assets and why legal protection can be essential to preserve wealth.
Why do you need Asset Protection?
It is no secret that the United States is a highly litigious society. Potential liability can arise from activities as ordinary as driving a car, inviting people into your house, or owning a rental property. Those involved in higher risk activities such as operating a business or working in the medical field should pay special attention to their asset protection strategy. According to the U.S. Financial Education Foundation, over 40 million lawsuits are filed every year in the United States. This is an astonishing number considering the country’s current adult population is estimated at around 260 million.
The figures reflect the sad reality that anyone could face a lawsuit in their lifetime, but things can be even more precarious for those with higher incomes or net worth. In these times of high political and economic uncertainty, issues surrounding wealth and income disparities are at the forefront of public debate. High-net-worth individuals are rightly concerned about the possibility of facing a devastating legal claim. Moreover, the concept of joint and several liability means that if one defendant is found to be responsible for a legal injury, any defendant can be liable for the entire judgment. This system incentivizes plaintiff attorneys to pursue the wealthiest defendants as opposed to those most at fault.
While the law provides some respite to those faced with legal claims, these protections are often minimal, and many do not apply until bankruptcy proceedings. Naturally, those looking to preserve their wealth are wise to consider additional means to protect themselves. While no one can guarantee complete legal protection, there are strategies that can help place you in a more advantageous situation if a lawsuit ever arises.
Homestead Exemption
The homestead exemption is a legal provision that helps shield the equity in a home from some creditors. It can protect a homeowner from having to undergo the forced sale of a primary residence to pay a claim in bankruptcy and it only applies to the one house. The homestead exemption applies automatically, there are no forms or paperwork to file, but exempted amounts vary greatly between states. Some states such as Texas or Florida allow an unlimited exemption, while other states only shield a few thousand dollars of home equity. Colorado protects only $75,000 of home equity, which is largely insufficient for most wealthy homeowners, especially given the recent trends in the real estate market. For these reasons, the homestead exemption is generally not considered a very important part of an asset protection strategy unless you reside in a state with an unlimited exemption.
Retirement Accounts
Qualifying retirement accounts under the Employee Retirement Income Security Act (ERISA) receive some legal protection against creditors, civil lawsuits, and bankruptcy. ERISA qualified retirement accounts include 401(k) plans, pensions, deferred compensation plans, among others. Accounts in these types of plans are employer-sponsored and normally held by an independent trustee. The owners of the retirement accounts are generally prevented from freely selling, transferring, and gifting funds held therein. On the other hand, other common retirement accounts that do not qualify under ERISA, such as individual retirement accounts (IRAs) receive some protection under the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA). As such, funds held in IRAs are only protected in case of bankruptcy. State laws can also offer its own level of protection to IRAs.
While the protections offered to retirement accounts are beneficial, its application in general asset protection are clearly limited. For one, only a limited amount of funds can be kept or added to most retirement accounts. In addition, due to its intended purpose, funds in retirement accounts generally have strict requirements governing withdrawals and transfers. After all, retirement accounts are not meant as general purpose funds, they are designed to provide support in later years when income from employment or business may be reduced. Retirement accounts are useful and can play a valuable part of your asset protection strategy.
Insurance
Insurance is a means of transferring specified risks to the insurer. Each basic type of insurance is designed to cover specific types of risks and policies are designed to protect against lawsuits arising out of these covered risks. Having multiple types of insurance together with an umbrella coverage can help protect against some of the most common claims. For example, homeowners’ insurance covers you in case someone is hurt on your property. Commercial Liability Insurance protects your business if someone suffers an injury on the premises or due to an action by an employee. Umbrella coverage is backup insurance that can be used if a claim exceeds the limits on your other policies.
Ample insurance is certainly recommended for anyone concerned about preserving their wealth as it is often the first line of defense against a potential claim. Due to its relatively narrow applications insurance policies can be used together with other legal solutions to form a more comprehensive legal defense.
Limited Liability Companies
A Limited Liability Company (LLC) is a legal entity meant to segregate the owner from liabilities arising out of a particular business. If used correctly, any debts or claims would generally only be payable up to the assets held by the LLC, not the owner’s entire net worth. The asset protection offered by LLCs is far from perfect. There are cases where the owner can be liable for business obligations, such as when an owner personally guarantees a debt, commits negligence, or fails to follow adequate corporate formalities. As with some of the other solutions discussed, having an LLC or other limited liability entity is recommended for anyone who runs a business, and can also be used to isolate potentially risky assets such as real estate and vehicles. LLCs are generally inexpensive, easy to set up and manage, and can provide great flexibility on their own or as part of a more complete plan.
Offshore Limited Liability Companies
An LLC can also be established offshore to provide a higher degree of protection from potential U.S. court judgments. Like its domestic counterparts, an offshore LLC is a legal entity meant to hold business assets and separate any business liability from its owner. An offshore LLC simply means the company is established and registered under the laws of a foreign jurisdiction. To take full advantage of the protection offered by an offshore LLC, assets held by the offshore company should be outside of the U.S. While you can name yourself as manager of the LLC, for best protection you should name a professional manager located outside of the U.S. This gives the offshore LLC defense against U.S. court orders since the company, its managers, and its assets are all outside of the country. The Caribbean Island of Nevis is one of the world’s most favorable jurisdiction to establish offshore limited liability companies for asset protection thanks to its favorable laws. An offshore LLC can work as an attractive asset protection solution either on its own, or in combination with an offshore asset protection trust.
Family Limited Partnerships
Like an LLC, a limited partnership (LP) is a limited liability entity that can be used to protect U.S. assets without giving up control over them. The owner can manage the entity as general partner, while owning any assets indirectly through an interest in the LP. If a creditor were to sue the LP, the only remedy a court can issue is a charging order over the partnership interest. With a charging order, the creditor can collect from any profit or liquidating distributions payable to the partner. However, the partnership can simply refuse to make any distributions to its partners and quickly render the charging order ineffective. Even after getting a favorable judgment, the creditor cannot become a substitute partner in the LP or gain any additional partnership rights. The rationale behind this legal protection is to defend the innocent partners from any business interference brought about by a creditor they have no relationship with.
Equity Stripping
Equity stripping is a legal strategy used to decrease the existing equity held in a particular property. These strategies are generally used with real estate or other high-value assets to make them less appealing to creditors. Equity stripping consists of applying new mortgage loans to existing assets. You can remain the titled owner of the asset, but since the mortgagor will have most of the economic value it means they would be entitled to most or all of the funds if the asset were to be seized and sold at auction. The mortgage is recorded and becomes part of the public record. This leaves a creditor with no use of going after the mortgaged asset since there would be little to recover.
This strategy could be used to supplement the homestead exemption if your state offers insufficient protection, or to protect real estate that would not qualify, such as second homes, investment properties, etc. Equity stripping can even be used to protect expensive personal property by means of setting up and recording a lien. As with all legal transactions, it is important that the equity stripping is done through a legitimate, arms-length transaction. Generally, the lender should be a bona-fide financial institution and should maintain some degree of risk after the transaction.
Asset Protection Trusts
A trust is a legal document created by the settlor, who signs and transfers property into the trust. The settlor has the power to decide the terms under which the trust assets will be managed and distributed. When a trust is established partly or solely for asset protection purposes, rigorous clauses are put in place to control the distribution of trust funds. Duress clauses are also important and give the trustee the ability to recognize and react to an event of distress, such as a lawsuit or court order. An effective duress clause allows a trustee to disregard an order to withdraw funds from the trust if the trustee knows the funds will be used to pay a judgment or creditor.
While asset protection trusts exist in several U.S. states, domestic asset protection trusts are still subject to U.S. court rulings so they are not nearly as effective as their offshore counterparts. For one, not all states recognize self-settled asset protection trusts. This point is crucial because while you may reside in a state that recognizes them, your state’s laws may not necessarily apply if you are ever sued. For example, state statutes may not apply against judgments in federal courts or by federal agencies. The current legislative and caselaw surrounding domestic asset protection trusts displays little uniformity across the United States and thus provides few assurances that these trusts will be effective if defending against a lawsuit.
An offshore asset protection trust protects assets not only thanks to the trust structure and the more favorable laws found in offshore jurisdictions, but they also allow the trust assets to remain beyond the reach of domestic courts and government agencies. Offshore asset protection trusts offer the highest degree of legal protection available. Since the trust is established in a foreign country and managed by a professional trustee outside of the U.S., the trust is not subject to the jurisdiction of U.S. courts. That means that a court order issued by a U.S. court cannot be used against a trust located outside the country. This gives the offshore trust incredible leverage when negotiating a settlement.
The Cook Islands Asset Protection Trusts
The most common options for offshore asset protection trust jurisdictions include the Bahamas, Belize, the Cayman Islands, and the Cook Islands. Of these, the Cook Islands is generally considered to be the safest jurisdiction thanks to its defendant friendly legislation and the costs associated with bringing a lawsuit in such a remote location. While the structure requires a local Cook Islands trustee to administer the trust, the Cook Islands is home to several well-established professional trustee companies. Any trust assets can be held by a bank domiciled elsewhere, such as Switzerland or Luxembourg. Thus, the settlor can have the assurance that trust funds are safeguarded in some of the world’s most prominent banking institutions.
A Cook Islands Asset Protection Trust can protect cash, investment portfolios, stock and other securities that can easily be transferred abroad. Having the assets located outside the U.S. means the trust can have the advantage of being fully outside the scope of domestic courts. That way, even a creditor obtains a judgment from a U.S. court, the matter would have to be litigated once again in the distant Cook Islands. While filing a lawsuit can be easy and relatively inexpensive thanks to contingency fee arrangements, the legal system in the Cook Islands is designed to favor defendants. To extract a payment from a Cook Island trust, the plaintiff must pay upfront attorney and court fees and must prove beyond a reasonable doubt that assets were placed in a Cook Islands Trust with the intent to commit fraud.
While a establishing a Cook Islands Trust might sound like an expensive and complicated undertaking, the attorneys at Blake Harris Law have helped numerous clients over the years with their asset protection needs. Thanks to the firms established relationships in the offshore trust field, clients can create their trust through a streamlined and transparent process and fund an offshore trust with a reduced initial investment. As other asset protection solutions, Cook Islands Trusts can work together with domestic or offshore limited liability entities to create a formidable asset protection plan.
Creating an Effective Asset Protection Plan
An effective asset protection plan will likely include a combination of insurance policies, limited liability entities, and a trust. The particulars will depend largely on your net worth, risk tolerance, and the possibilities of a claim based on your work, business, and lifestyle. Regardless of how complex or straightforward your asset protection plan is, it always pays to start early. The legal structures designed to protect assets gain legitimacy and dependability over the years. A trust that has been in place over several years demonstrates that it was established for genuine reasons, not as a last-ditch attempt to avoid payment on a claim. Additionally, an asset protection plan can and should evolve over time as your situation changes. You can start with a simpler structure and build up to something more robust as your net worth increases. While it is possible to take steps to protect yourself once a claim or legal threat is anticipated, the best time to begin working on an asset protection plan is when the horizon is clear.
How to Find the Right Attorney for Protecting Your Assets
When looking for legal counsel regarding your asset protection needs, you want a firm that has experience with a variety of different situations and that can help you find the solutions that work best for you. Making sense of the numerous asset protection alternatives available and determining what best meets your needs requires ample knowledge, care, and patience. Fortunately, Blake Harris Law has been helping wealthy individuals and families protect their assets for years. Our comprehensive approach to asset protection ensures we cover all the bases – this is critical if you want your assets to remain as secure as possible. Thanks to our expertise and level of service you will have clear and reliable guidance throughout your process.
If you have any questions about any of the legal solutions discussed here or if would like to learn more about asset protection please contact us by filling out our online form or via email at info@blakeharrislaw.com for a no-obligation consultation and trust formation pricing to suite your asset protection needs.
