What is Asset Protection All About?
Photo by Henry Hustava on Unsplash
Any discussion of asset protection must start with two questions:
- What are the risks you’re concerned about?
- What assets do you want to protect?
Unfortunately, our world abounds with financial risk, including poor investment returns and decisions, lawsuits, divorce, foolhardy spending decisions, long-term care costs, inability to work, scams, drug addiction, death at a relatively young age, and natural disaster. These unfortunate events may happen to you or your loved ones.
Assets to Protect
Any plan depends as well on what you want to protect, whether your own savings and investments, your home, retirement plans, your inheritance, or what you plan to leave your children and grandchildren. Depending on what you hope to protect and what risk you’re concerned about – for instance, whether it’s risk of lawsuit by tenants of rental property you own or by your patients if you’re a physician, or a risk (or hope) that your daughter will finally divorce your good-for-nothing son-in-law – different solutions are available, each with its own tradeoffs.
Types of Protection
Insurance of all forms – homeowners, disability, life, long-term care – provide protection against many of these risks. Unfortunately, except for life insurance where the event triggering the right to payment is much too clear, there can be disputes about whether and how much the insurance company must pay. And, of course, there’s a cost to paying premiums.
Forms of ownership, such as trusts and limited liability corporations (LLCs), can supplement or take the place of insurance to protect assets. They also have a cost in terms of legal fees to set them up, legal and accounting fees for their maintenance, and often some loss of control. In each case, the owner must choose which form of protection makes the most sense.
To put a large part of this into perspective, there are generally three broad areas of asset protection:
- Protection from someone’s (child?, grandchild?) bad decisions.
- Protection from a lawsuit, whether you are sued for a personal injury, failure to pay a debt, on a contractual claim, or for divorce.
- Protecting assets from having to be spent down to be eligible for public benefits.
Protection from bad decisions often involves holding funds in trust, so that someone other than the beneficiary can manage the assets and avoid poor decisions.
In terms of protection from a lawsuit, depending on the type of asset involved and how it is held, it may be more or less at risk. This often plays out in bankruptcy court, since if your debts exceed your assets, you can avoid paying some of your debts by declaring bankruptcy. Federal and state bankruptcy laws provide certain exemptions, typically for homes and retirement accounts. Certain trusts and forms of corporate ownership may also be exempted.
The other legal concept that often comes into play involves laws against fraudulent conveyance. Many debtors and potential debtors attempt to protect their assets by transferring them out of their names, often to spouses, other family members or certain trusts. They can do so to avoid future claims, but not to avoid current or anticipated debts. Creditors can use fraudulent conveyance laws to claw back transferred assets.
Protection of assets so that beneficiaries can qualify for public benefits usually involves the use of trusts—the type of trust depending on the type of benefit at issue and the source of the funds or assets meant to be protected. (You can read more about this under our Long-Term Care Planning and Special Needs Planning categories.)
Often trusts or forms of corporate ownership can protect against multiple types of risks.