Protecting Your Assets From Creditors
April 21, 2014
By William Gibney, Esq.
If you drive a car, own real estate, own a business, have a spouse or business partner, or engage in high-risk activities, there’s a decent chance you will be sued. You could cause an automobile accident. A delivery man could slip and fall on your front porch. You could go through a divorce. Your business partner could be sued for any number of reasons and you, involuntarily, become a co-defendant. Sadly, as we struggle to recover from a crippled economy, our society is becoming increasingly litigious. Even frivolous lawsuit — with little or no basis for a claim — can cost a fortune to defend.
But there are practical and inexpensive ways to protect you and your family from lawsuits;
GET A PERSONAL UMBRELLA
First, make sure you are adequately insured. If your net worth is a million dollars, you should have a personal umbrella liability insurance policy for at least that much. Umbrella policy rates are relatively inexpensive—usually around $200-$300 per million dollars coverage. Of course, an umbrella policy is an additional protection—not a replacement for basic homeowner’s and automobile insurance.
ELIMINATE CERTAIN JOINT ACCOUNTS
If you have joint bank accounts or hold real estate jointly with an elderly parent, sibling, child, or friend, you are liable for any lawsuit filed against the joint owner. For example, if Mom knocks down a pedestrian on her drive to church and you are a joint owner on her savings account, the entire account could be seized in a lawsuit and you could lose your inheritance. The rental property you and your brother inherited, held as joint tenants with right of survivorship, could be lost to a renter who is injured on the property.
REVAMP YOUR BUSINESS ARRANGEMENT
Many people have informal real estate investment partnerships or other business arrangements with partners. In this loose structure, you and your partner are alter-egos. His mistake becomes your nightmare. A lawsuit filed against your partner will almost certainly be filed against you as well and could wipe out your personal assets, as well as the business. A family business held as a sole proprietorship exposes all of your personal assets.
DON’T OWN ANYTHING PERSONALLY
Think of everything you own—each piece of real estate, your business, bank accounts, stocks, bonds, and mutual funds, planes, boats, cars and valuable collectibles – as enemy targets. My job as an asset protection attorney is to build a fortress that the enemy can’t invade. The goal is to compartmentalize all of your assets into separate entities that you, as an individual, don’t own.
Irrevocable trusts offer good asset protection, but most of the time, the limited liability company (LLC) is my preferred form of protection. An LLC is inexpensive and easy to maintain and with a well-drafted operating agreement, it can keep creditors at bay.
In my model plan, the member of the LLC will be a revocable living trust. While a living trust offers no creditor protection while you’re alive, it will protect your heirs from the hassles and expense of probate after you die and may minimize or eliminate estate taxes.
COMPARTMENTALIZE YOUR ASSETS
We will separate your hot assets (high-risk assets such as real estate and the family business) from cold assets (such as stocks and bonds, which are unlikely to cause a lawsuit.) Each piece of real estate (a hot asset) will be held in a separate LLC for maximum protection. Next, we’ll create an LLC to own your business—another hot asset. Your cold assets such as cash, stocks, bonds, and mutual funds may be combined and owned by one LLC. These investments have some exposure, but they’re unlikely to cause a lawsuit.
A huge advantage of LLCs over other asset protection vehicles is their charging order protection. Arizona law provides that a judgment creditor’s sole remedy is a charging order. Simply put, a charging order is a lien placed on the LLC’s assets. When a creditor tries to attach distributions from the LLC, the LLC’s manager can elect not to make distributions. The stand-off between the creditor and the debtor can lead to a settlement favorable to the LLC.
Not all assets are available to creditors. In most cases, IRAs, annuities, and life insurance are creditor-protected. Homeowners can also take advantage of Arizona’s homestead exemption, which protects up to $150,000 of equity in your home from creditors.