Asset Protection Basics
Common Mistakes and How to Avoid Them
Asset protection is a shorthand expression for protecting your wealth through legitimate means. It includes everything from saving on taxes and using the right business form, to more sophisticated techniques such as establishing trusts to shield assets from unnecessary risk, such as lawsuits.
The goal of asset protection planning is to avoid the erosion of wealth from scurrilous claims, unnecessary expenses and needless confiscation. Often it is only when things go wrong, that flaws in protection plans are revealed. Here you’ll have an opportunity to learn from the planning mistakes of others. Following are the biggest bloopers found in asset protection planning.
SEPARATE BUSINESS AND PERSONAL ASSETS
An important reason to form a business entity, such as an LLC or a corporation, is to be sure that the assets and liabilities of a business are clearly separated from those of an owner. A self-employed person who does business without a so-called “corporate shield” is unprotected if hit by a lawsuit or other liability.
Here’s a simple example of why it’s so important: If you own an apartment building in your individual name, and someone has a major catastrophe in your building for which you are held liable, all of your assets, not just the apartment building, can be reached by a judgement creditor. However, if the apartment building has been owned in a separate corporation or LLC, the only assets at risk are those owned by the LLC.
It’s important to use separate entities for creditor protection whenever possible. These may also include:
- Family limited partnerships
- Joint ownership
INADEQUATE PERSONAL INSURANCE COVERAGE
A key ingredient of standard asset protection plans is to carry sufficient insurance to cover claims that can be covered by insurance. Keep in mind, insurance cannot and does not cover all things that can go wrong.
But surprisingly, a common problem is that folks don’t carry enough insurance for their:
- Rental properties
- Umbrella liabilities policies to cover catastrophes not covered by automotive, homeowners’s or other insurance.
PERSONAL ASSETS HELD IN YOUR OWN NAME
Federal and state laws often protect certain assets from the reach of creditors. For example:
- Homestead laws in some states (e.g. Florida) protect a family home from being available to creditors – for a business or personal debt.
- Federal laws put pension, IRA and 401(k) plan assets beyond the reach of most creditors.
- State laws often protect things like college savings plans and insurance coverage.
Since laws vary from state to state and it’s important to know what is protected in your state, if a creditor comes to call.
JOINTLY OWNED PROPERTY
When it comes to owning property jointly with a spouse, it’s not enough to own the assets jointly. If both spouses are sued by the same creditor, the property is at risk. But if title is held jointly as “tenants by the entirety” a special form of title that can only apply to spouses, the property is protected under the laws of most states. Assets most often seen to be at risk when this is not done properly include:
- Down payments under home purchase contracts
- Investments in private companies
- Out of state real estate holdings