Generally, most people concentrate their asset-protection efforts on insulating their personal wealth from frivolous lawsuits or other claims. But if a significant portion of your wealth is invested in a business, it’s equally important to protect its assets from unreasonable or excessive creditor claims. Let’s take a look at several asset-protection strategies available for a wide range of assets.
The way you handle the personal assets comprising your estate can make a big difference. For instance, you and your spouse may own your home or other real estate as joint tenants with rights of survivorship (JTWROS), for convenience’s sake. But this exposes the property to the reach of creditors.
Alternatively, a couple might arrange to own the property as a tenancy by entirety, when permissible under state law. As with JTWROS, the property automatically passes to the surviving spouse on the death of the other. However, in this case, the property can’t be used to satisfy a judgment against the other spouse.
Also, note that you can use the annual gift tax exclusion to reduce the size of your taxable estate without tapping your gift and estate tax exemption. For 2022, the gift tax exclusion is $16,000 per recipient ($32,000 for joint gifts by a married couple).
One way to protect your assets from creditors is to secure adequate insurance coverage. This includes several types of insurance policies.
Start off with liability insurance for your business. This is especially important for physicians, attorneys and other professionals who are frequent lawsuit targets and must rely on malpractice insurance.
Similarly, by acquiring adequate automobile and homeowner’s insurance, you can guard against a financial catastrophe. Make sure you understand the key elements, including what’s covered, the policy limits and which exclusions apply.
You can buy life insurance naming your spouse and children as beneficiaries. If certain requirements are met, the proceeds won’t be included in your taxable estate. This is often accomplished through an irrevocable life insurance trust (ILIT).
If you have business interests or real estate holdings at risk, the form of business ownership is critical. Essentially, an entity may be used to distinguish business assets from personal ones and thereby limit a creditor’s ability to seek recovery.
For example, if you’re a sole proprietor or a partner in a partnership, you usually face unlimited personal liability for business debt. One protection method is to form a corporation or a limited liability company (LLC) for the business. Generally, this reduces your exposure. However, make sure you understand all the tax and legal implications.
Entire books have been written about the use of trusts to protect personal assets. While trusts have many variations and uses, one of their main attractions is their general ability to shelter assets from creditors.
Notably, to protect your assets from judgments, the trust must be irrevocable. This means you can’t revoke it or maintain control over the assets.
For example, when permitted under state law, you might establish a “spendthrift trust” designed to protect funds accessible to beneficiaries like young children or grandchildren. The designated trustee controls the disposition of assets until the beneficiaries reach a specified age.
As mentioned above, an ILIT may be used to provide life insurance proceeds without including them in your taxable estate. A trust may also incorporate charitable giving through a charitable remainder trust or charitable lead trust.
Don’t risk your wealth
No matter how successful you are at building wealth, if you don’t protect your assets from a lawsuit or an unreasonable creditor’s claim you risk the chance that you’ll have nothing left to pass to your heirs. Your estate planning advisor can help you implement specific asset-protection strategies that are right for your situation.