Simple Steps to Shield Assets

 

Lawsuits, accidents, and other unexpected events can put personal assets at risk of loss. Protecting assets from these and other potential losses is a prime goal of many people. While expensive asset protection packages are available from various finance professionals, there are much simpler ways to protect most assets that should be implemented before considering the more elaborate plans.

 

When evaluating asset protection strategies, the differences between federal and state laws are important.

 

Federal law for the most part covers only federal bankruptcy court actions. In other claims on assets, state law will determine whether or not an asset is protected. The exception is employer pension plans. The Employee Retirement Income Security Act of 1974 provides that most pension plan assets are protected from creditors of the participant regardless of state law.

 

Each state sets its own laws on asset protection. While there are some general principles and strategies, before implementing a strategy a check of state law is required. For personal assets, the state of the owner's residence usually determines the protection, while the state where real estate is located often controls its destiny.

 

Retirement plans: As mentioned above, ERISA protects employer-sponsored retirement plans from being reached by creditors. This protection covers traditional defined benefit plans as well as 401(k) plans.

 

IRAs receive limited protection under ERISA, but have wider protection under federal bankruptcy law. An IRA that consists of a rollover from a 401(k) account has unlimited creditor protection. Otherwise, up to $1 million in an IRA is exempt from creditors. Because contribution limits to IRAs have been fairly low, it is unlikely that a contributory IRA (one that does not contain a retirement plan rollover) will exceed $1 million.

 

Unfortunately, the IRA protection applies only in federal bankruptcy actions. In any other action involving a creditor and an IRA, state law controls. Some states exempt IRAs completely from the reach of creditors. Others protect IRAs up to a ceiling amount. There also are a few, such as South Carolina, that allow the courts to protect IRAs “to the extent that justice requires.”

 

Strategy: Maximize the use of 401(k) plans and other employer-sponsored retirement plans. Check state law to learn if IRAs are protected.

 

Joint ownership. In many states owning property jointly protects all or half the asset from creditors. In states that recognize ownership as tenants in the entirety, the asset is protected from creditors of either spouse. Only real estate owned by a married couple can be owned as tenants in the entirety.

 

Don't overdo joint ownership. Joint ownership has estate planning disadvantages, especially tax disadvantages. Joint ownership also can invalidate parts of a prenuptial pr postnuptial agreement.

 

Strategy: Consider joint ownership for select assets, but only in consultation with an estate planner.

 

Insurance products. In many states, annuities and the cash value of life insurance policies are exempt from creditor claims. Someone concerned about lawsuits or creditors seizing assets can do a portion of his or her investing through these products instead of taxable accounts. Their disadvantages include higher costs, limited investment options, and the possible conversion of capital gains into ordinary income.

 

Strategy: Move some investments from unprotected taxable accounts to appropriate insurance contracts.

 

Homesteads. A primary residence receives some degree of exemption from creditors in almost all states. A few states, such as Texas and Florida, provide generous exemptions, while others put a ceiling on the value of protection for homes.

 

Strategy: Learn your state's homestead exemption. If it is low, consider moving to a state with a higher exemption. If it is high, consider the feasibility of purchasing a more valuable home to exempt more wealth.

 

Mortgages. A home or other property can be encumbered by debt, reducing its appeal to potential creditors.

 

Strategy: Borrow against property and give the cash proceeds to family members or use it to buy property with greater asset protection.

 

Land trusts. These are recognized in the statutes of only six states but provide privacy and asset protection when available. Like other trusts, assets they hold usually are exempt from creditor claims of a beneficiary. In addition, often nothing other than the trust name needs to appear in the public record, providing a level of privacy. Some states allow their land trusts to be used by non-residents if a state resident is trustee.

 

Strategy: If available, transfer real estate to a land trust.

 

LLCs. The limited liability company provides strong asset protection in most states. Many asset protection attorneys recommend LLCs as an essential tool. An alternative is the family limited partnership. A creditor, even if it succeeds in gaining an ownership share of the LLC (or limited partnership) usually cannot force distributions, sales, or other transactions. The LLC also can help achieve other goals, such as providing a way to bring family members together to manage assets and create a succession process. A caveat is that all procedural rules and formalities must be followed for the LLC to be recognized as the property owner.

 

Strategy: Transfer key assets to an LLC. A separate LLC can be created for each asset, a recommended strategy for business assets and real estate.

 

The umbrella. A basic form of significant protection is insurance. Homeowner's and auto insurance provide some liability protection. A personal umbrella liability policy broadens that coverage, and $5 million of additional coverage usually can be obtained for a relatively low cost. This coverage will protect assets against claims from accidents and some personal acts, and the insurer will pay for the attorney in many cases.

 

Strategy: Be sure a generous personal umbrella liability policy is in place.

 

There are basic strategies that provide meaningful asset protection. Someone with assets of $5 million or more at risk might want to consult with an asset protection specialist and consider a series of asset protection vehicles, even offshore trusts and LLCs. Most people, however, can create security with the tools discussed here. 

 

Planning is the key element of any asset protection strategy. Courts often ignore actions that occurred after a creditor's claims already were apparent. For any strategy to be effective, it must be implemented before there is a clear threat of losing assets.

 





Posted 07-25-2008 10:26 AM by Bob Carlson
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