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Asset protection important part of planning
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Last week, I began my discussion of asset protection. In Florida, property owned by both spouses and purchased by both spouses while married is considered tenancy by the entireties property, which is not subject to the debts of one spouse. Many couples rely on tenancy by the entirety property as their primary source of asset protection. However, reliance on this concept may be misplaced.
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First, a creditor may be able to obtain a judgment against both spouses and then be able to collect from their joint assets. For example, perhaps the spouse works as the bookkeeper for the business and is listed in the Secretary of State's records as the assistant treasurer of the business in order to be able to write checks. The disgruntled plaintiff could then sue both spouses as officers of the corporation. Or perhaps the automobile is owned in joint name, subjecting any vehicle accident caused by either spouse to liability for both spouses as owners of the car or truck. Each spouse should be the sole owner of the vehicle he or she drives in order to insulate the other spouse from liability. If both spouses are sued, tenancy by the entirety property will offer no protection from judgment creditors.
Second, what if the non-debtor spouse dies while the action is pending against the debtor spouse? What if the non-debtor spouse dies while the plaintiff is able to pursue the collection of the judgment for the 20 years the judgment may remain on the record? If the couple becomes divorced, any outright disposition of property received by the debtor spouse will be lost to the judgment creditor. If a parent of the debtor spouse dies, without a proper dynasty trust, any inheritance left outright to the debtor will be lost to the creditor. What if the law changes to weaken tenancy by the entireties protection?
NOTE: ASPECT OF ASSET ALLOCATION MUST BE STUDIED CAREFULLY.
This raises another aspect of asset protection called entities planning. When deciding how to organize your business or how to own investment property, the attorney should educate the client on the amount of asset protection that various business entities afford. Conducting your business as a sole proprietorship has no asset protection. Conducting your business as a general partnership not only offers no asset protection, but may obligate a partner for the mistakes and liabilities of their other partner.
Conducting your business as a corporation may offer some asset protection for inside liabilities. If, for example, an employee in a home remodeling corporation causes a work-related vehicle accident, the injured party can collect against the assets owned by the corporation but not from the outside investments of the owners or shareholders of the corporation, unless there is independent liability or wrongdoing by the owner or shareholder. Whether the corporation is a Sub-S corporation or a traditional C corporation does not matter. That distinction is relevant only to the manner of paying income taxes. The problem is if an owner has a judgment entered against him or her for wrongdoing that has nothing to do with the business, called an outside liability, the creditor may eventually seize the stock of the corporation owned by that person and take control of the business, even liquidating the business to pay off the judgment. Corporate ownership offers no protection from outside liabilities.
If the business is conducted as a Limited Liability Corporation, or LLC, or by a Family Limited Partnership, or FLP, there is some protection from outside liabilities. A judgment creditor who obtains a judgment against one of the owners of a LLC or a FLP is limited to obtaining a charging order against the partnership. The law says that a partnership cannot be forced to accept an unwanted person as the partner. The charging order is like a lien on distributions only when the partners elect to make a distribution, but cannot force the partners to make distributions. If the creditor obtains a judgment, they must wait to collect until the partners make a distribution to the partners, which could be many years. This inability to collect may bring about a more favorable settlement.
The charging order protection does not protect from inside liabilities. For example, if a person is injured in a store or rental home, the owner may be sued. If the store or rental is owned by a LLC or FLP, the assets of the entity are liable for any judgment. Good entity planning would be to have every store or every rental owned by a separate LLC. If one LLC is sued, the other stores or rental homes owned by other LLCs would not be at risk, as long as the formalities of the entity are followed and there is no co-mingling among the entities. Hot assets, such as boats or airplanes, are often owned by a separate LLC and each LLC is owned by a FLP. Each LLC can be set up with very little equity if the equity is borrowed out by the FLP or individual owner of the LLC, called equity-stripping. The owner of the LLC can be an offshore trust set up in a jurisdiction which makes penetration by U.S. courts more difficult. In 10 states, an individual may use an irrevocable asset protection trust which allows persons to place their assets beyond the reach of their creditors during their lifetime. At present, Florida does not have legislation to allow this method of asset protection.
Some have suggested that even tenancy by the entireties property can be owned by a LLC or FLP, so that if the tenancy by the entirety property is compromised by law change, by death of one spouse or by divorce, there would at least be charging order protection.
Although the primary purpose of leaving assets at death in a dynasty trust is to make sure the assets are not added to the size of the beneficiary's estate for estate tax purposes, the dynasty trust also provides asset protection for future generations, although not for the trustmaker. For example, if a widow or widower leaves his or her $2 million estate to his or her two children, and if either child already has his or her own estate in excess of the $2 million lifetime exclusion, or unified credit amount, the extra million inherited would cause more than $450,000 in estate tax when the child dies and leaves the estate to the grandchild, under present law. This tax can be avoided if the funds are not left outright to the child, but instead left in a dynasty, or generation skipping trust.
Because the trust is designed to avoid the assets being considered the assets of the beneficiary for future estate tax and generation skipping tax purposes, by making the assets available only in the discretion of the trustee on an ascertainable standard, the assets cannot be seized by judgment creditors of the beneficiary. The assets are also protected from divorce proceedings or the bankruptcy of the beneficiary. Upon the death of the trustmaker, the surviving spouse may also receive this asset protection for assets passing through the family or by-pass trust. Anyone considering a revocable trust for estate planning should ask the attorney to explain the important benefits of this asset protection planning for a spouse and children.
Another type of asset protection for the assets of a disabled person is the d(4)a special needs trust authorized by federal law, about which I have written extensively in past articles, available through the archives section of www.news-press.com.
NOTE: IMPORTANT TO LEARN FROM TAX ATTORNEY.
-William Edy is a tax attorney, a certified financial planner and a certified elder law attorney in Lee County. He may be contacted online for article ideas and questions. Since e-mail is not secured, do not send confidential information by e-mail. This article should not be a substitute for advice from your own attorney.
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