At least once a week I review somebody’s asset protection plan. Sometimes, this is because I’m representing a creditor and have been asked to cut through the plan. Sometimes, this is because I’m representing a debtor and they want me to defend the plan. Sometimes, there is no litigation going on but an estate or financial planner has brought me one of their clients plans to review. And, sometimes, folks contact me out of the blue who want to know whether their plan is viable. The point being that I see a lot of asset protection plans and have a good idea of what is going on within the sector. So much so that I can often glance through a few pages of documents and know pretty quickly which asset protection planner did the plan and how it is likely to be arranged.
Most of the asset protection planning that I see is pretty bad. Rare is the asset protection plan that doesn’t have at least one significant defect, and most have several. Maybe these defects can be remediated, but a lot of the time the entire plan needs to be reconsidered. This is a nice way of saying that such plans should be tossed into the waste bin.
There is good asset planning out there certainly, but that planning is the rare exception and not the rule. Most asset protection planning has been badly done. This article explores why.
Asset Protection Is Oversold
The are a lot of reasons why the quality of asset protection is generally poor. The first of these reasons is that asset protection is terribly oversold. A lot of folks who form asset protection plans really didn’t need one in the first place, or at the very least they needed a much more simple asset protection plan than they ended up with. Many of these folks would be better off talking with their insurance broker about increasing their liability coverage. This is even more true for persons who are resident in a state with liberal creditor exemptions. Why spend money on an asset protection plan when you can pay off your house or buy some life insurance or an annuity and call it a day?
The overselling of asset protection planning also applies to particular groups. Physicians are the best example: Doctors are heavily marketed that they need an asset protection plan, although for most doctors the odds that they will suffer an adverse judgment in excess of their insurance coverage are pretty small. Obviously, this depends upon the area of practice. A neurosurgeon will face higher odds of being successfully sued for a large amount than a general practitioner or orthopedic surgeon. But even when a professional has a reasonable need for an asset protection plan, what they need may be much more limited than what is sold to them.
Asset Protection Plans Are Rarely Challenged
Anecdotally, asset protection plans face creditor challenges at a rate of something less than 1%. In other words, something less than 1 asset protection plan in 100 will ever face a creditor challenge. This is due to a variety of reasons, including that most folks who have an asset protection plan may never get sued, if they do get sued the liability will be covered by their insurance, and most litigation settles before ever getting to the judgment enforcement stage. The cases which go all the way through judgment and then a creditor has to try to bust an asset protection plan are rare.
The problem here is that nobody knows whether a particular asset protection plan will be effective to shield creditors until it is tested in court. Because this almost never happens, an asset protection planner might produce literally hundreds of deeply defective asset protection plans without anybody ever knowing about it. This means that a serious defect in an asset protection plan may be concealed from everybody until that point in time that a creditor discovers the defect and moves to exploit it.
That so few asset protection plans are ever challenged in court also gives rise to a creeping laziness by asset protection planners. Put together a few dozen asset protection plans and nothing bad happens, you’ll start to believe that what you are doing works. Never mind that none of the plans have ever been challenged in court. Like the man falling halfway down from the skyscraper said, “So far, so good!” Because nothing bad has happened so far, perhaps standards don’t need to be as high as they were at the outset. Planning starts to get lazy, and then downright negligent. However, since it is entirely possible that even a prolific asset protection planner can go an entire career without a single asset protection plan ever coming under challenge, they might retire believing that what they did “worked”. It is only those rare asset protection plans which are challenged demonstrate whether an asset protection plan really works or not, not the ones that were never challenged.
Cookie-Cutter Asset Protection Plans
The vast majority of asset protection plans are cookie-cutter plans. This means that all the asset protection plans sold by a particular planner are almost identical with very little variation. Think of these plans as basically an off-the-shelf business suit that is designed for the average male of 5’9″ and 200 pounds but is sold to everybody taller, shorter, thinner and fatter. The retired client with $3 million in assets is sold the same asset protection plan as the heart surgeon with $15 million in assets and the CEO of a public company who has $125 million in assets. Everybody gets the exact same thing.
It is hard to even call this “planning” in any meaningful sense, but it is instead little more than naked product-pushing. Like a business suit, there is no way to even begin to design an asset protection plan that will fit everybody equally. The fit will likely be poor, if not absurdly poor. While the client’s assets might or might not be protected, the client’s other objectives will not be met. There will almost never be a vehicle provided for the client to have an income stream while creditors are hovering, and the plan will often not take into account the client’s broader needs in terms of estate planning.
There are sadly a lot of groups out there who push the cookie-cutter asset protection plans. Some of these groups aim at physicians and have names like “Medical Society For Financial Security And Asset Protection” or some other silly name. They sell their customers (client really doesn’t fit) expensive and worthless kits and often dozens of interconnected LLCs. The planning doesn’t make any sense, but they falsely pass that off as sophistication. Some of these cookie-cutter plans are offshore too. The customer pays a lot for this junk, then pays a lot to have another attorney back them out of it later on.
Empty Asset Protection Plans
A surprisingly large number of asset protection plans that I review are stillborn. These plans were completed and all documents duly signed, but the client never funded the plans by actually transferring assets into them. They are empty plans and they are thus worthless.
These empty asset protection plans usually resulted because the client was concerned about something, spent a lot of time and money to create the plan, but then by the time the plan was completed they had lost interest in it. No assets ever went into the plan and the client mostly forgets about it until some other concern comes up. Then, they wonder whether the plan can be revived. The answer is usually “no”.
The problem is that good asset protection plans are designed for a particular set of circumstances at a particular snapshot in time. Good asset protection plans are also designed with the presumption that the client will not have any immediate problems, but rather the transfers made to facilitate the plan will have gone “old and cold” by the time any creditor threat materializes. By the time that a client decides to utilize the plan, it may not fit the client’s assets anymore and there may be an existing claim which would render contributions to the play voidable transactions.
The Do-It-All Structure
Another common defect is found where one structure ― usually a trust ― tries to solve all the client’s problems. This reminds me of a kitchen tool that years ago was marketed as “slices, dices and makes julienne fries”. It is also an estate planner’s dream because then they only have to deal with the documents for the one structure, whatever it is.
It is also a pipe dream. It is generally not possible to handle all the issues of a client with a single trust or LLC or any other solution. Different structures do different things. Trying to make one structure do everything is just a different way of pounding the square peg into a round hole. It also violates a key precept of asset protection planning which is to diversify defenses. If one structure fails, but only has a limited number of assets in it, only those assets are lost. If one structure fails, and it has all the client’s assets in it, then all the assets are lost.
The Structure Mismatch
A general rule in asset protection planning is that trusts are for personal assets and business entities such as LLCs are for business assets. When this rule is ignored, bad things tend to happen. For instance, if somebody puts their vacation home into an LLC, it may be difficult to defend the LLC against alter ego allegations. Another example is where somebody stuffs the title to their personal residence into their retirement plan, thus risking the plan being defeated. While it is sometimes possible to use structures for purposes other than which they were intended, this should only be done with a good deal of thought an analysis.
The Puppet Fiduciary
This is the asset protection flaw that creditor rights attorneys love. What happens is that the client tries to save on costs by appointing an insider as a trustee or other fiduciary. This will be a person who is related to the client such as a family member, or is subordinate to the client such as the client’s employee, financial advisor, CPA, etc. These persons really are not independent fiduciaries in any meaningful sense but instead are nothing more than the client’s nominee or agent. And they will not tell the client “no” when they should ordinarily do so.
These situations are amendable to creditors claiming that the structure is nothing more than the client’s alter ego, which is why creditors love to see them. These sorts of puppet fiduciaries also typically allow asset protection plans to deteriorate by allowing the client to misuse them.
The Decrepit Structure
And now we come to the single biggest reason that asset protection plans fail. This is that over time the plan is not followed correctly. Clients forget their planner’s admonitions that they only do certain things in a certain way. Clients forget the reasons why doing things a certain way is important. Over a long period, clients will even forget why they implemented their plan in the first place.
Also, things change. Family members die, are born, are estranged, get divorced. Businesses change, fail, and are sold. Assets appreciate and depreciate. The plan may be well-designed and generally flexible, but they still have to be maintained and altered when necessary. This rarely occurs at the level that needs to be done. One day assets are carefully segregated, the next day the business account is paying for a child’s tutoring. The asset protection plan develops fuzz and then starts to fall apart completely.
This happens with a lot of estate plans as well. A will made today may need to be modified next year. But clients typically do not assign a high priority to such maintenance, if at all. They sort of just presume that the plan will somehow magically adjust to take care of changing circumstances. Of course, that doesn’t happen. By the time that a creditor materializes and they start to dust off their plan, it may be too late to be fully effective. Or even partially effective.
Asset protection plans should be periodically revisited and reviewed, preferably at least annually. In reality, very few are subject to such review. Planners tend to finish up one client’s documents and then move on to the next client without much in the way of follow-up. It is largely up to clients to themselves check-in with their planners, very similarly to how they have to make their own appointments with their family doctor for their annual check-up. But it is very important that this be done, or else the asset protection plan will keep deteriorating without anybody noticing until it is too late.
Identifying And Fixing These Flaws
Asset protection planning is like many other professional areas in that, if something is serious, a second opinion is warranted. This means going to a truly independent asset protection planner that you find yourself and is not somebody recommended by your existing planner (who might be a ringer). This does not mean that the planner that you go to for the second opinion will always be correct, and your first planner always wrong, but at least it will key you to issues for discussions with whomever you feel more comfortable with. Note that professionals frequently disagree, and there might be two ways to skin a cat that are equally effective.
One thing you have to look out for is an asset protection planner who always “blows out” the existing plan as poor, just so they can then sell their own plan (which might not be any better, and might actually be worse). By way of analogy, this frequently happens between annuity and life insurance salesmen since they can’t make a profit unless they blow out a client’s existing annuity or life insurance policy ― you existing policy will always be horrible and the new one they are trying to sell you will be the best thing since sliced bread. This sometimes happen with estate planning too, but it happens much more frequently with asset protection planning which has little standardization or protocols for doing things between planners. This seems to be the case more with the cookie-cutter planners who sell the same thing to everybody and thus start out somewhat ethically-challenged.
A good planner will at least try to make an existing asset protection plan work, since even a flawed “old and cold” asset protection plan may be better than a fresh one in many circumstances. They will only throw out the existing asset protection plan if it proves to be entirely unworkable. Anyway, it is never a bad thing to get a second opinion for an asset protection plan, or sometimes even a third- or fourth-opinion if necessary. The more professionals who are eyeballing the asset protection plan, the more likely that hidden defects will be pointed out.
Beware AI Reviews
It is merely a sign of the times that some clients will upload their asset protection plan into a folder and ask AI to evaluate it. Please be very careful with this. AI will search the internet for information about asset protection generally and quite possibly more than 90% of that information is simply wrong. For all the cool things that it can do, AI is still fundamentally a computer algorithm and the GIGO rule (“garbage in, garbage out”) applies with even greater force.
Anyway, please be careful out there.
Read the full article here