Asset protection is not a one size fits all situation. This is going to vary from person to person and from business to business because everyone’s needs, wants and situations are different to some degree.
Lawsuit protection is a very very important topic in terms of asset protection. However, there is bad news on the lawsuit front.
If you were able to go back 40 years would you think lawsuits are more common now then they were back then? Do you think there are more things that you can be sued for these days compared to then? Are the damage awards far more lenient than they are now? Do you think this trend is likely to continue?
The answer is yes to every question. 40 years ago if you were going to be sued, you had to actually do something wrong. Today, you don’t have to do anything wrong to be sued.
Why are there more lawsuits than 40 years ago? There are many answers to that question but one answer is the internet.
Lawyers jumped all over the internet to figure out how to get more people to sue. As an example there’s a website called “Who can I sue”. Another called “How to sue a doctor”, there’s the site called “suing a landlord in 7 steps” and then there’s “Sue Easy – Take the power back”.
These are just a few of the hundreds of such websites of lawyers trying to get people to sue other people just like you. If we’re going to protect ourselves from a lawsuit, we need to understand the dynamics of a lawsuit.
When a person is hurt, angry or suffers what they perceive to be financial loss due to the actions of another, they go to a lawyer and say “I want to sue!” the lawyer says, “I’ll take your case on a contingency basis.” That means, if you are the client, you will pay nothing unless you win. If you win, the lawyer takes a percentage of whatever you win plus any expenses of the top of your settlement. You must understand that if you’re the one getting sued, you will never ever get a lawyer to defend you on a contingency basis. You will be paying hundreds of dollars per hour for an attorney to defend you – whether you win or lose doesn’t matter. Unlike a plaintiff attorney, a defense attorney will expect full payment regardless of whether he wins or loses the case. There is no negotiation on this point. This means that if you win, you have paid thousands of dollars just to be allowed to keep everything that you have worked so hard to earn.
So why are there so many lawsuits? Just think about it. If I sue you and don’t win, what’s the worst that could happen to me? I walk away no less poor than I was when I walked in. But if I do win…..I get money.
In this scenario, win or lose you’re the one in a bad position. If I win, you’re out thousands of dollars in attorney fees, court costs plus whatever the amount of my judgment. If I lose, you still have to pay your attorney and court costs incurred on your behalf.
The plaintiff attorneys foot the bill for these lawsuits. They front the money for the court costs, witness depositions, and expert witnesses. These attorneys aren’t fools. Before they ever agree to take the case, they go to the internet and they do what is called an asset search. They want to make sure that if they win, you have assets for them to seize. They will check to see if you won property. Then they will check to see how much equity you have in them. This is all public record. This has always been public record. The difference between today and even 10 years ago is that 10 years ago a person had to physically go to the county courthouse and find the records and if I had properties in several counties or even in another state, you might not find them all. Today, the internet has made searching nationwide as easy as entering a credit card number and hitting enter. Once you understand this, you will realize how vulnerable we all truly are.
When an attorney does an asset search on you, you want to look flat broke. There’s nothing wrong with being rich….but you want to look poor. The reason is simple. The plaintiff attorney is going to spend a minute looking at your assets online. If you look broke, he’s going to think “what’s 30% of zero?” and “What’s the point in my spending my time and money going after this person if they have no money?” If you look broke, they’re going to skip right over you and look for someone else to sue.
There are lots of things we can do to look broke. When asked, a lot of people say they don’t know anyone who has been sued. But they do. Let’s look at a few ways you can be sued even when you’ve done nothing wrong.
(2) Employee Action. If you own a business with even one employee and they do something wrong, you can be sued.
(3) If you’re a homeowner you can be sued if someone gets hurt on your property or if your tree falls on a neighbor’s house. Most people think that because they have homeowner’s insurance, they’re fine. But every policy has a monetary limit which means they will only pay so much for any policy. Once they’ve reached that limit, they stop paying….and you have to begin paying out of your own pocket. And if you don’t, your assets can be seized.
(4) Joint ownership pitfalls.
(a) Joint tenancy (Joint tenancy is a special form of ownership by two or more persons of the same property. The individuals, who are joint tenants, share equal ownership of the property and have the equal, undivided right to keep or dispose of the property.)
(b) Tenancy by entireties (This word denotes the whole, in contradistinction to a moiety, which denotes the half part. A husband and wife, when jointly seized of land, are seized by entireties and not “pur me” as joint tenants are.)
(c) Community property
(d) Other forms of joint ownership.
Bottom line is this. If your joint owner does something wrong, you can be sued and you can lose all the assets you own with them even though you did nothing wrong.
(5) Use of General Partnerships where you’re doing business with a family member or a friend. This is the worst way you could ever do business because that means you could now go broke for something that they did because, in a general partnership, each partner holds 100% personal liability for the debts of the partnership. Remember, LLC’s generally protect your personal assets. Better to do business as an entity rather than a partnership.
(6) Service as Corporate Officer or Director. Officers or Directors of Corporations are personally liable for what the company may do wrong.
(7) If you LOOK like a Corporate Officer. This typically comes about when someone steps in to help a friend or relative to just keep the books. Sooner or later that person will begin to write checks. At that point, to the outside world, they look like a corporate officer and they are just as liable.
(8) Just “owning an asset”. Example: You are the parent of a teenage driver. Of course, your teenager is not legally permitted to own anything until they reach a certain age. So the car they drive will typically be in your name. When the teenager gets into an accident the person who gets sued will be you. The reason you get sued, even though you weren’t driving and did nothing wrong, is because you own the car.
(9) Breach of Contract. This can be a situation where you did nothing wrong but the other party thinks you’ve done something wrong and sues. Maybe they’re not satisfied with the way you fulfilled the contract, there may be different interpretations of the contract.
(10) Insurance may not cover you. This is a situation where you’ve done nothing wrong, you attempt to make an insurance claim and the insurance company denies it for whatever reason. You’re left holding the bag. People have said insurance is like a hospital gown. You only think you’re covered.
None of the above situations sound fair and they’re not. All of them are part of what the law calls “Vicarious Liability”. That means “things you don’t control”. In other words, you can be sued for what your spouse does in a divorce, your employee does wrong, a guest dos wrong while on your property. You can be sued for what a joint owner does wrong, what a partner does wrong, what your kid does wrong, etc. You can be sued for the actions of others and as a result, can lose your assets.
Photo courtesy of Disney Wikia
We protect our assets by using what is called a Lawsuit Protection Entity. Lawsuit Protection Entity (LPE) contains at least two very important sections:
(1) A properly structured limited liability company (LLC)
(2) Family limited partnership (FLP)
We’ll talk more about FLP because it’s the granddaddy of asset protection. LLC grew out of the FLP. It’s been around for over 100 years and is rock solid. FLP is founded under laws within the Internal Revenue Code Section 704.
In every FLP there is both a General Partner and a Limited Partner. The general partner is usually you or your spouse while limited partners are usually your kids or grandkids. It’s done this way because the GP always has 100% control. If you aren’t married or don’t have kids or grandkids the LP can be a friend, significant other or anyone you choose. LP’s do not have to be related. The LP doesn’t even have to be a human. It can be a Corporation, a Living Trust or an LLC.
The key to protecting your assets is before you are sued. An FLP cannot protect you if you try to set it up after you are sued or even after you have been threatened with a suit. That would be called a “fraudulent conveyance”.
To get this going, we need to set up an FLP and put all of our assets into it. Even the simplest asset needs to be in the FLP. Checking and savings accounts, stocks, bonds, mutual funds, T bills, CD’s, money market accounts. They will now be protected by your FLP so if someone sues you they cannot seize these assets.
For those who invest in real estate, this can really save you. If you own rental property and one of your tenants decides to cook meth or sell guns out of the property that they rent from you and the police raid that property, it can be seized if it is not in an FLP.
Never own investment real estate in your name. If your property is in your name, you are 100% responsible. Remember, you cannot control what your renter, their friends and/or family members choose to do on your property.
Transferring mortgaged property into an FLP can sometimes present a problem because if there is a mortgage on the property you may run into the “due on sale” clause. Due on sale clause means that the lender has the right, if you transfer the title, to accelerate the note making it due and payable right away and if you cannot pay it, you lose it.
Fortunately, there is a law called the Gain-St. Germain Depository Institution Act of 1982 which prevents a lender from calling a note due when the property is transferred to a revocable trust. A land trust satisfies this act as long as the property is residential and is 4 units or less. The problem arises when a lawsuit is filed while the property is in a land trust because it is not protected and can be seized because a living revocable trust does not protect your assets from a lawsuit.
To protect your property you transfer it to a land trust first then transfer the land trust into a lawsuit protection entity. Now if a lawsuit strikes, the property is protected.
There are four reasons to use a land trust:
(1) Avoids “due on sale” clause when transferring mortgaged property.
(2) Lawsuit protection for a mortgaged property when it is combined with a lawsuit protection entity.
(3) A land trust provides anonymity for ANY property since it is entirely private and is not registered so no one can tell how many properties you own.
(4) It makes selling the property very easy because you can sell the beneficial interest instead of the property itself which means you don’t have to go through the appraisals and surveys, etc and there are no closing costs since you are selling a personal interest in the property, not the property itself.
What can you put in the FLP other than your money products? Any real estate, all business assets and even personal property like jewelry, antiques, electronics, and cars.
How does this protect you? When you have your assets in a properly structured LLC or an FLP, if and when you get sued the other side does not get your money, your business, your property or anything else put into the LLC or FLP. Instead what they get is what’s called a “changing order”. A changing order gives them three big headaches in order to collect anything.
(1) It gives them the right to seize a certain percentage of your assets from your limited partnership and the exact percentage by law that they get to seize is ZERO. They cannot seize, attach or levy upon a single asset.
(2) They cannot take your assets but they can take the net income of the partnership that you distribute. That means that they can’t take the real estate in your partnership but they can take the rent. They can’t take your business but they can take your profits. However, if your LLC or FLP is properly structured, it will include the following language: “The general partner shall distribute the net income of the partnership to each partner every year except the general partner does not have to distribute the income if the general partner decides not to distribute any income.” That means that when you lose a lawsuit the winner gets ZERO.
(3) Taxes. In 1977 the IRS basically decided that they don’t care if the winner of a lawsuit was supposed to get $2M from you in this lawsuit but they couldn’t figure out a way to get it done. Nonetheless, the winner is required to pay taxes on the $2M that they never got. Who would ever consider suing anyone whose assets are in an FLP or an LLC knowing that not only are they not going to get anything but they still owe taxes on money that they never got??
An FLP or LLC can protect your assets from a lawsuit but only if structured correctly. Most people think that all they have to do to get an LLC or FLP is to go down to the Secretary of State or jump on an internet site like Zoom, answer a few questions and they’ve got an LLC or FLP.
In order to get a proper LLC or FLP that fits your particular needs, situation and business, you will need to hire an attorney who is experienced in this field. Will this be cheap? No. But it will be infinity cheaper than losing your money, property, and income when someone wins a lawsuit against you.
A completed and correctly structured LLC will do the following things:
(1) It will lower your taxes
(2) It will protect your assets, and
(3) It will protect you from IRS audits.
We all own assets and we all want to own more. If you build a great structure on a bad foundation, it’s going to fall down around you.
The question is if someone sues you and wins, how much money do you want to give them? The answer is NONE and that’s how much they’ll get if your assets are protected in a properly structured LLC or FLP.
After all, there’s no need to make it if we can’t keep it, right?
(The information contained herein was obtained through seminars conducted by a licensed attorney. The author of this blog and owner(s) of this site are not licensed attorney’s and make no claims as to the accuracy of this information nor do they intend anything contained within this blog to constitute legal advice.)