Planning Can Protect Assets Against Growth In Litigation

By Richard S. Lehman, Esq., of Richard S. Lehman P. A.; Boca Raton, FL
Published: May 24, 2002
South Florida Business Journal

In today's workplace, it's not unusual to see businesses thrive one day and then face a fight for survival the next as a result of liability for a seemingly insignificant action.

Or they might have fallen victim to a law or situation of which they are not aware.

Liability insurance had often been the answer to this risk. However, because of September 11th and unpredictable juries, the insurance world is running away from policies covering U. S. liability exposure. In many sectors liability coverage is either non existent or prohibitively expensive.

Business owners have been sued for asking the religious background of a job applicant. Others have been put out of business for not making appropriate modifications for a disabled employee. Major losses have been suffered because an employee told an off color joke in the lunch room.

There are legitimate violations that must be remedied, such as racial discrimination, sexual harassment, and discrimination against people with disability. And there are many mistakes large and small made by professionals of all calibers. However, we are finding in many cases the laws and the damages are stretched far beyond there intent.

The right type of asset protection planning should place the protected person in a better position to negotiate quicker and lower settlements. Assets that are difficult and even impossible to attach do not represent the "deep pocket" that is often one of the reasons for the lawsuit.

The first step in doing something about liability exposure is to acknowledge that you and your business can be the subject of a potentially devastating lawsuit.

The second step is to consider all the legal strategies that can be used for protection of assets.

It is extremely important that asset protection strategies are adopted before a suit has been filed or a creditor makes claims. A transfer of funds to protect one from creditors cannot be made with actual intent to hinder, delay or defraud any creditor of the debtor. This is known as "fraudulent conveyance" and will not be legally respected.

One easy way to protect assets is to make a gift. If you do not own an asset, it cannot be taken away from you. However, keep in mind you lose control and benefit of the gifted asset. Following are some other planning strategies you can discuss with an attorney:

* Tenancy by the entireties. A business or any other asset may be owned jointly by husband and wife. In the event there is a judgment against either and not both, the asset is not available to creditors. A creditor will not be able to reach the assets unless and until the non-debtor spouse dies first, then leaving the debtor spouse as the sole owner of all the jointly held property.

* Limited partnerships. There is a legal entity that consists of one or more general partners who control the entire management of the partnership and limited partners that are passive investors in the partnership. This is an excellent vehicle for asset protection planning. Most importantly, the limited partner's personal exposure for debts of the partnership is limited to his/her investment in the partnership. A limited partner's creditors also have only a right to the distributions from the debtor partner's partnership interest. A creditor cannot take full ownership of a limited partner's interest in a limited partnership. Thus, other limited partners will not be forced to be partners with an unknown new partner.

* Limited liability companies. The limited liability company may be treated like a corporation or partnership for tax purposes and entitles all of the "members" to the same asset protection benefits as a limited partner. There is a limited exposure to the business entity losses only to the extent of the investment in the company and there are limitations on ownership transfers. However, businesses should be careful when assuming that an LLC will have the exact same level of protection as a limited partnership simply because there is much less legal precedent in regard to this newer entity.

Limited partnerships and LLC's have other asset protection qualities in common. The agreements governing these entities may provide for numerous other restrictions and limitations that make the ownership of these type of interests unattractive to creditors of a partner/member. The agreement may prevent the sale of a debtor partner's interest to a third part and even force the sale to the remaining partners on favorable terms.

* Domestic trusts. For centuries, this has been an effective method of asset protection. A trust document may be drawn in such a manner to limit the beneficiaries' interest in the trust assets thereby limiting the rights of the beneficiary's creditor. Keep in mind that trusts may be both revocable by the creator or irrevocable. A revocable trust will provide no protection from the creator's creditors since the creator who started the trust has complete control over the assets and could discontinue the trust.

An irrevocable trust may provide a major degree of protection as long as the controls and benefits retained by either the creator or any of the beneficiaries are not sufficient to give either the control over the trust assets. An irrevocable trust is an excellent asset protection entity for "inherited wealth." Funds in an irrevocable trust to a child from a parent may be left in a trust where the trustee has the total "discretion" to distribute funds to the child or a child's spouse or children. Since neither the child nor any other beneficiary owns a fixed right to distributions, the beneficiaries' creditors have nothing to collect.

* Foreign trusts. Foreign trusts will generally give no tax advantage to U. S. citizens who establish them. However, they are helpful tools when it comes to the collection process as many foreign jurisdictions may have "debtor friendly" laws that make collection of trust assets extremely difficult. This is generally a vehicle that will be used only for the substantially wealthy.

Keep in mind that these are cursory explanations of several asset protection strategies. Business owners should realize that their assets are always at risk, so it's worth considering these plans with a professional as a way to protect what you've built personally and through your business.

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Richard S. Lehman

* Georgetown University J.D.
* New York University L.L.M. Tax
* Law Clerk to the Honorable William M. Fay – U.S. Tax Court
* Senior Attorney, Interpretive Division, Chief Counsel’s office, Internal Revenue Service
* Author: “Federal Estate Taxation of Non-Resident Aliens,” Florida Bar Journal
* Contributing Author and Editor: International Business and Investment Opportunities” Florida Department of Commerce, Division of Economic Development, Bureau of International Development (translated in German, Spanish, and Japanese)