Asset Protection for Physicians and High Risk Business Owners Articles
Successful business owners and professionals are often the target of malicious lawsuits. These could be lodged by disgruntled employees, ex-business partners or just plain nuisance plaintiffs out for a quick buck.
For many physicians and dentists, the primary source of potential liability comes from patients claiming professional malpractice. Unfortunately, there is currently no conventional legal structure that physicians can avail of that shields them from these type of lawsuits. Forming a corporation through which to conduct the practice only protects against the acts of other professionals in the corporation. It does not protect against the doctor’s own malpractice. Nor does it protect against the acts of non doctor employee malpractice since the injured plaintiff is sure to argue that the employee was negligently supervised by the doctor. So, asset protection for doctors and dentists is one possible strategy. The same is true for successful business owners and high net worth individuals. The more your net worth, the more you will be a target of plaintiffs and their attorneys.
Doctor and other professionals, as well as business owners are aware of liability risks and the exposure of personal assets to the claims of creditors. This is not news. For doctors and other professionals, their concern has focused on malpractice-related claims. Due to the proliferation of large malpractice verdicts and the constant level of malpractice-related attorney advertising, this concern is understandable. However, malpractice liability is not the only financial risk that physicians, other professionals and business owners or high net worth persons face.
2. Malpractice Insurance Developments
The availability and cost of malpractice insurance is the primary professional issue facing physicians and other professionals. As the cost of medical malpractice insurance has skyrocketed, many physicians have sought to control costs by reducing their policy limits to the minimum required for medical staff membership (commonly, $1 million per incident and $3 million annual aggregate) or by shifting to less expensive carriers. This latter approach can backfire when the new carrier is downgraded by a rating service to a point below that which satisfies hospital medical staff requirements, or when the malpractice insurance carrier files bankruptcy, ceases operations entirely or is seized by state regulators.
The increasing unavailability of “occurrence” medical malpractice insurance has caused many physicians to obtain “claims-made” insurance. This presents issues involving “tail” insurance upon the termination of coverage. The prospect of a “tail” premium equal to two times (or even more) the annual premium has forced many physicians into early retirement or into employment with large group practices or hospital-related entities. The prospect of going “bare” has become all too real for physicians and other professionals who were insured with non-standard carriers whose “tail” insurance continues only for a certain number of years, unlike traditional “tail” coverage, which continues until the policy limits are exhausted. I see this happening more and more.
When physicians and other professionals have an asset protection plan in place, it appears that malpractice plaintiffs and their attorneys have generally not evidenced interest in pursuing physicians’ and other professionals’ personal assets, except in unusual circumstances. By the design and implementation of effective and strategic asset-protection planning, many doctors and other persons have made themselves essentially judgment-proof to any but the most determined judgment creditor. Plaintiffs lawyers generally go after easier targets. Plaintiffs lawyers usually do some sort of asset search before they take on a new case. If the search does not turn up many assets in the name of the potential malpractice or other target, they often do not sue that person or are advise their client to settle for less than the alleged claim they may have.
Relying only on insurance, may result in different future outcomes. Lower insurance policy limits, the impact of state law tort reform, and the possibility that hospitals, already low on funds, may be less likely to contribute to settlements in cases involving physician malpractice. That may affect the probability of resolving medical malpractice claims.
3. Non-malpractice Claims Risks
Though physicians may be inclined to view asset-protection strategies only in the context of medical malpractice claims, it has been observed that physicians have paid or lost money far more often as the result of the following:
• uninsured or underinsured casualty losses;
• bad investments;
• personal guarantees of business obligations;
• alimony and property payments that could have been minimized with a pre-nuptial agreement;
• uninsured sexual harassment claims;
• uninsured employment discrimination claims;
• estate taxes caused by inadequate estate planning;
• victimization by fraud;
• liability for breach of fiduciary duty (e.g., ERISA claims, director or officer liability); and
• indemnification obligations.
Asset-protection strategies that do not address these risks are incomplete.
4. Asset-protection Strategy Components
A comprehensive asset-protection strategy for a physician should include several components.
Some of these are set forth below. They would, of course, be in addition to common-sense liability avoidance (e.g., use good judgment: Do not permit underage drinking in your house, recognize changing times—what may have been viewed in the past simply as obnoxious behavior in the operating room is now actionable sexual harassment, meet your fiduciary obligations—serving on a hospital or other board of directors is more than an honor, it is a responsibility that entails numerous risks, etc.).
a. Adequate Insurance Coverage.
Regardless of what other strategies might be considered, and though insurance may not be enough if there is a large jury verdict or settlement, liability insurance is always recommended as the primary component.
Considerations in making decisions with respect to insurance would include the following:
• the strength of the carrier and
• its commitment to remaining in the physician’s market,
• the amount of insurance coverage and,
• least importantly, the premium cost.
Make sure your carrier is highly rated by the insurance industry company ratings organizations. Then, review those ratings on at least an annual basis to make certain your carrier has not fallen in the ratings.
Warning: Sometimes jury verdicts exceed the insurance policy limits. If that happens, all of your non asset-protected assets will be available for seizing by the plaintiff’s attorney and their client. So, as you can see, sometimes insurance, though imperative, is not enough.
A physician’s asset-protection strategy should include obtaining and reviewing the adequacy of all insurance policies including the following:
• office overhead,
• umbrella coverage and
• employment practices (to cover the increasingly common incidence of discrimination and sexual-harassment claims).
For a physician, an insurance review would include insurance coverage maintained by, or contractual indemnification provided by, the physician’s employer or by other third parties (e.g., hospitals, nursing homes) for which the physician provides services. Often, those services do not constitute the “practice of medicine” and are not covered by the physician’s malpractice insurance. Identifying insurance gaps can be the most valuable asset-protection service Yahnian Law Corporation can provide to our clients.
b. The Transfer of Ownership of Assets Within a Family.
A common asset-protection strategy for physicians has been to gift assets to a non-physician spouse or to children. While this strategy continues to be effective, given the ever-higher incidence of both husband and wife being physicians, interspousal gifts may not solve the problem. And, also given, that marriages often do not last, interspousal gifts or conversion of assets to the non professional spouse’s separate property, also may not only not solve the problem, but create other problems. Sometimes the creditor the professional needs to watch out for is their own spouse.
Poorly planned and implemented gifting programs can create federal estate tax problems. As the unified credit amount under federal estate tax law has increased, an overly aggressive gifting program can result in unnecessary federal estate taxes if, for example, it leaves the donor spouse with a taxable estate short of the unified credit amount and if the donor spouse predeceases the donee spouse. No major gifting program should be undertaken without it being coordinated with proper estate planning. Nevertheless, transferring assets (e.g., a personal residence) to the non-physician spouse often achieves both asset-protection and estate-planning goals. Transfers to a trust for the spouse, rather than outright to the other spouse, will give even more protection, not only from the doctor’s future possible creditors but also the spouse’s and also protect the house in the event there is a marital dissolution.
c. Increase the Value of Exempt Assets.
California law exemptions from bankruptcy and personal creditors should be considered as part of any asset-protection strategy. This is particularly true given the fact that two of the largest components of many physicians’ estates (life insurance and a personal residence) are treated with degrees of exempt status under California law. Nevertheless, estate-planning issues involving, for example, the form of ownership of real estate (e.g., estate tax issues, probate avoidance) should generally be considered before asset-protection issues.
d. Family Limited Partnerships and Limited-liability Companies.
Family limited partnerships or limited-liability companies can offer significant asset protection in that, if properly structured, on an ongoing basis the creditor of a partner or member would only receive what is called a charging order against the individual’s interest in the partnership or LLC. What that means is that the creditor could not get at the assets nor even the partner’s ownership interest in the entity, but only any distributions to the partner, if any the partnership or LLC may make to them.
As a general rule, these entities are designed and used for business and estate planning purposes, not asset protection. These entities are attractive to physicians more as vehicles through which family property can be better managed or controlled, or through which ownership interests in property can be gifted to other family members at a discounted value so as to minimize federal gift tax complications.
Such entities can also be a much more convenient way of transferring interest in real estate than by transferring percentage fee interests with complications associated with mortgages, deed filings and title insurance. However, the side benefit of asset protection is potentially substantial. Some creditors give up and go away when faced with only being able to obtain a charging order rather than being able to seize assets inside the entity or the ownership interest.
e. Asset-protection Trusts.
Asset-protection trusts have been considered by and sometimes implemented by physicians as a means whereby the physician can retain an ownership interest in assets while at the same time place the assets outside of the claims of creditors. In the past, they were formed in places such as the Cook Islands or Caribbean islands. The costs associated with setting these trusts up, the inconvenience and the general feeling of lack of adequate control over the assets contributed to making them unattractive to most physicians. Now, we have states within the US e.g. Alaska and others, that attempt to provide the same level of asset protection as off shore nations, using many of the same type of offshore trusts. These are called Domestic Asset Protection Trusts.
Despite the widespread adoption of state law tort reform, physicians continue to be greatly concerned with asset-protection issues.
The laws of a number of states (at my last count, Delaware, Alaska, Nevada, Rhode Island, Utah and Missouri) now offer asset-protection trusts that are an exception to the self-settled discretionary trust rule under which the trust corpus would otherwise be subject to the claim of the settlor’s creditors.
In forming such a trust, certain matters involving the establishment and ongoing operation of the trust need to be considered. Typically, the trustee must be domiciled in the state that offers the asset-protection trust. As a practical matter, this is not a problem in that many large banks have formed trust companies in the above listed states.
These trusts can provide substantial retained powers for the settlor, such as the right to receive trust income, the right to receive principal under an ascertainable standard, the power to veto trust distributions, special powers of appointment and the right to remove a trustee or advisor.
Commonly, the state statutes authorizing these trusts do not immediately insulate assets from creditor claims and also exempt certain claims. For example, under Delaware law, future creditors have a “tail” period after the transfer to the trust. Exempt claims include those such as a spouse with claims for alimony or child support and certain tort claimants whose claims precede the funding of the trust.
Notwithstanding these limitations, asset-protection trusts will likely become an increasingly common asset-protection strategy for physicians and non-physicians alike.
It may be possible to create such trusts in California using some extra steps in the process to avoid the self settled trust rules, but arriving at the same asset protection protections and objectives.
f. Retirement Plan Assets.
From what I have seen, a typical physician’s most valuable single financial asset is his or her qualified retirement plan account or rollover IRA. The most common asset-protection-related questions that I receive from my physician clients are these:
• Are my qualified retirement plan assets protected from the claims of creditors?
• If I roll my qualified plan assets into an IRA, will they still be protected?
ERISA prevents a creditor from executing on assets in an ERISA-qualified retirement plan to satisfy a judgment against the plan participant or beneficiary. Thus, answering the first question necessitates determining whether the plan in question is an “ERISA plan.” Generally speaking, pension plans, profit-sharing plans and 401(k) plans, which are tax-qualified under §401(a) of the Internal Revenue Code, would be considered “ERISA-qualified plans.” However, uncertainty can arise in situations in which the plan loses its tax-qualified status due to operational or document deficiencies, or where the sole participant in the plan is the owner or spouse of the owner of the business. These uncertainties can be reduced by including a non-owner (other than the owner’s spouse) as a plan participant, by careful plan administration and by obtaining IRS determination letters, even upon the termination of the plan.
The answer to the second question involves an analysis of California law. IRAs (including SEPs, SIMPLES) are not “ERISA plans” and are not insulated from the claims of creditors by ERISA. California exemption laws provide some theoretical and possibly real level of protection for IRAs, providing an exemption to the extent necessary for the support of the IRA beneficiary and the beneficiary’s dependents or their proven future retirement needs.
g. Avoidance of Indemnification Obligations.
Physicians who provide independent contractor or similar services (whether clinical or administrative in nature) to other medical providers, institutions or facilities (e.g., hospitals, surgery centers) are regularly presented written service agreements that contain various indemnifications, hold-harmless clauses or defense obligations. Such indemnification obligations would typically not be covered by a physician’s liability insurance, at least to the extent that the indemnification obligation exceeded what would be imposed on the physician under the facts of a particular case by operation of common law indemnification principles.
Defense obligations raise similar problems in that generally there is no defense obligation under common law principles.
A physician should not agree to these types of obligations without first obtaining the written approval from his or her liability insurance carrier or carriers. While indemnification provisions often give rise to difficult negotiations, in our experience the other medical provider will generally agree to modify its demand in the face of a refusal by the physician’s insurance company to recognize the indemnification, defense or hold-harmless obligation.
Despite the widespread adoption of state law tort reform, physicians continue to be greatly concerned with asset-protection issues. In addressing this concern, two factors must be kept in mind. First, the malpractice plaintiff is far from the only potential threat, and, indeed, is not the most likely threat to the financial well-being of a physician. Secondly, an asset-protection strategy should be integrated into an overall financial and estate planning program. And, such an asset protection program must be in place long before the creditor claim arises. Otherwise, the creditor would be expected to make the claim that the plan is a fraudulent conveyance. If successful, the court would rescind the plan.
A well-crafted asset protection plan can be an excellent lawsuit deterrent.
Contingent fee lawyers will only proceed with a case if they like their odds of winning. That’s because they don’t get paid for losing a case.
You become a less desirable target if others believe your assets are untouchable. Unlike low-hanging fruits, protected assets are located high up a tree, inaccessible to none but the most determined of claimants. If you make your assets difficult to access, predator plaintiff’s attorneys and their clients will likely look for an easier target elsewhere.
The critical factor is that you must have these plans in place before a claim arises, to be protected against that claim. Otherwise, the plaintiff can argue ‘fraudulent conveyance’ law to get the assets from you.
If a case does proceed to trial, your asset protection plan places a legal shield over your assets. Winning a lawsuit against you as an individual does not automatically give them access to your assets. An asset protection plan puts a barrier between the direct connection and control you have over your assets. This keeps them separate and distinct from you as an individual. It separates your various legal tools from one another as well. A plaintiff will have to file a lawsuit against each of the vehicles protecting your assets. This can quickly become tedious and expensive – and just enough to turn an opportunistic plaintiff away.
An asset protection plan can also be an inducement for an early settlement. Rather than try to pierce your plan and go through a time-consuming trial, a plaintiff may opt to settle. This can save you not only time, but money as well. Even if you have to pay a certain amount, chances are, the settlement will be nowhere near the original demand. Paying a defense attorney $30,000 to protect you rather than $5 million is an economically valid decision. You can and avoid a drawn-out, emotionally taxing trial. The peace of mind alone pays for itself.
Asset Protection Strategies
So, what legal tools are available to protect your assets?
The key to protecting your assets from a lawsuit is to surrender complete control over them. The courts cannot use them to settle a judgement against you if, legally speaking, they no longer belong to you. Begin by transferring your assets to an asset protection vehicle or vehicles, depending on the amount of assets you have. You could place them in a family limited partnership (FLP), a limited liability company (LLC) or some other instrument that offers you the best protection for your type of assets.
As a rule, you should avoid creating a single legal entity to hold all your assets. Using different asset protection instruments for each type of asset is an effective and efficient way to discourage frivolous claims. It would encourage a claimant to sue you if they can access all your assets when they sue just one entity. The opposite, that they would have to file separate lawsuits against several different entities, would discourage them, particularly if the cost to do so were excessive and the odds of recovery were reduced.
Modern asset protection strategies now give you the option of using some or all of the following:
- Domestic trusts
- Offshore trusts
- Limited Partnerships
- Equity Stripping
- Retirement Plans
Make certain your attorney explains to you the plusses and minuses of each one before coming to a decision. It is smart to consult a trustworthy professional in the field. The world of domestic and offshore asset protection can be confusing and overwhelming to the uninitiated. An objective and experienced guide can help you reach a decision that works best for you.
Qualified Retirement Plans
One very effective asset protected tool are qualified retirement plans.
There are still a few income tax shelters that are sanctioned by the government. Some of these include tax-deferred retirement plans such as an IRA, 401 (K) and company pension plans. These instruments are protected from personal injury and malpractice claims under federal or California law. It makes sense to regularly put as much as you legally can into these funds. In most states, your money is 100 percent protected. Of course, this is under the condition that you don’t make withdrawals until at least the age of 59½. Early withdrawals are taxable and, worse, your opponents can tap them to satisfy a judgement against you. Maximizing your contributions to these funds reduces your taxes and can simplify estate planning in the long run.
Although this page is addressed specifically to doctors, other persons such as high net worth individuals, business owners and other professionals can also make use of the information contained below. Just imagine yourself in the place of a doctor.
Physicians put in long hours in residency and several years of study and specialization before they can practice medicine. However, these hurdles may pale in comparison to fighting a knock-down, drag-out legal battle. Physicians face the challenge of protecting their practice and assets from an increasingly litigious society. Perceived as ‘deep pocket’ defendants, physicians are often the target of predatory malpractice lawsuits mounted by scheming plaintiff’s attorneys. You worked hard to build your wealth, and a predatory personal injury comes along and tries to take away in one fell swoop using ‘lawfare’. Lawfare is the term used to describe using the courts to commence legal war against you, do legal combat and defeat someone using the litigation system, and then ‘legally’ seizing their assets. The fact that they may force someone to pay hundreds of thousands of dollars in attorney’s fees to defend themselves, and could very well impoverish you and your family, means absolutely nothing to the attorney suing you. Remember: this is what they do. And, they get 1/3 of what they collect from you.
Because much has now been written on the “litigation explosion” and so many professionals and business owners have directly experienced its impact, asset protection planning is becoming as common as wills and estate planning. This dramatic increase in interest in protecting assets has been spurred by the threats associated with the “litigation explosion”, including the widespread perception that professionals with any accumulated savings are easy and vulnerable targets for frivolous claims. To many outside observers, the outcome of every case appears random, with unpredictable jury verdicts and astronomical damage awards.
As would be expected, the increase in lawsuit awards and settlements is restricting the availability of liability insurance coverage for the physician, a traditional and popular “deep pocket” defendant; many malpractice insurers have simple withdrawn from the business. In some “high risk” states – those with a history of large malpractice jury awards – and for some “high risk” specialties, such as obstetrics, neurosurgery, emergency room medicine, and orthopedic surgery, insurance may be unavailable, inadequate, or prohibitively expensive. Even doctors with good coverage now are uncertain about future availability. The “malpractice insurance crisis” is colliding with the “litigation explosion” to form a disaster. As a result, physicians need to plan ahead to protect themselves, which is where asset-protection planning comes into play.
Asset protection planning is the specialty area of the law that addresses many of physicians’ most important concerns, including the best ways to organize one’s business and financial affairs to minimize liability and lawsuit risks, and the steps a physician can take to insure his or her accumulated wealth and future earnings are insulated and shielded against potential loss. What else is involved in the field of asset protection? Who needs it? What are the strategies used?
Why Doctors Are at Risk
In the US, business owners, with the exception of physicians and some other professionals, can shield themselves from personal liability for business risks. They do this through the appropriate use of corporations, limited liability companies, and/or limited partnerships.
Business can be conducted without exposing the personal assets of the owner (but for their owns acts of negligence or breach of contract, or indemnity agreements or personal guarantees) to the obligations incurred by the company. Generally, the owner’s risk is limited to the amount of capital invested in the business. For regular business owners, theoretically, the quantity of risk is known and accepted. An investment of $200,000 in a business implies a maximum loss of $200,000. Substantial asset protection planning is devoted to organizing and reorganizing business structures and advising clients how to take full legal advantage of the limited liability protection available through these entities.
The purpose of allowing limited liability is to encourage business formation, job growth, and economic prosperity. Many would not operate a business or make an investment if they could not quantify the potential loss. Without a fair measure of the dollars at risk, it would be impossible to make rational business decisions.
Ask yourself this question: Would you invest in a company if a stated percentage of the profits if you were required to provide an unlimited guarantee of losses, to the full extent of your net worth? Even though most people would agree this proposition doesn’t sound like such a good deal, that’s how a medical practice operates; you have no choice if you want to practice medicine. Physicians cannot legally limit their personal liability for claims against the practice, and there is unfortunately no business structure permitted in any state that protects a physician from the primary source of potential liability – lawsuits based on a claim of professional malpractice. For you see, malpractice is personal. And, medical practice is practiced personally and billed by the doctor. This is different than a corporation or LLC that manufactures and sells widgets. If the manufacturing company produces a widget that harms someone, it is unlikely the business owner will have any personal liability. But, if someone is harmed by the medical services, there is only one person who provided those services or supervised someone else in the practice who did. So, even if the doctor is incorporated, it is likely he will have personal liability.
Unlike other business owners, each profitable year of operation does not reduce a physician’s level of financial risk. In fact, the reverse is true. Every dollar saved becomes an additional investment in the practice. Young doctors just beginning their careers, with little or no savings, have the lowest level of risk. But with each passing year, savings are added and the amount at risk is increased. As assets continue to grow, prior to retirement, most other business owners have minimized their exposure, but the risk for a physician has increased to the highest level. With every patient and procedure, they are literally placing at risk everything they own on a successful outcome. The more they have, the larger the amount at risk.
Attempts to remedy this situation has been blocked by trial lawyers and their friends in the legislature. Each state has passed legislation allowing the creation of Limited Liability Companies for business owners. In every case, at the request of the trial lawyers, physicians and other professionals have been specifically excluded from the benefits of the law.
So, what can a doctor (or other professional, business owner and high net worth person do)?
Taken together, the steps below can shield the assets from frivolous and even valid claims. If you take certain steps, you will have the comfort of knowing that you have protected your assets. This allows you to devote more time to your patients, your livelihood, your family and your business.
The first step to take in order to protect yourself from these claims is to carry adequate malpractice and other insurance.
However, Doctors are realizing that insurance alone is not sufficient to protect their assets.
Step 2 involves the design, preparation and implementation of an asset protection plan addressing your individual situation.
There is no one-size-fits-all asset protection for physicians design. Each plan usually requires a different configuration of strategies from another. Beware of an advisor who tells you this is so.
Third, make full use of government-protected tax shelters such as pension plans, profit sharing plans, SEPs, SIMPLES and IRAs. These tax strategies also have powerful asset protection features.
Even though insurance carriers may devote substantial resources towards defending a claim, an important concern of many physicians is that a lawsuit may produce an award in excess of their level of coverage, or that coverage may not be available at some point in the necessary amount and at a price that is affordable.
In addition, there are other risks that may not be covered by insurance. Many physicians have concerns about the financial impact of litigation in the event of possible billing disputes with insurers or government agencies. In these types of cases, the first move may be an attempt to freeze all of the physician’s assets. If such a freeze is granted, the case is effectively over. A defendant in such a case will have no ability to pay personal or business obligations (or attorney’s fees). Without access to funds, regardless of the merits of the case, or whether the defendant would ultimately prevail, an asset freeze virtually eliminates the possibility of conducting a defense, quickly forcing a fast and unfavorable settlement – on any terms demanded by the plaintiff (especially the government).
Other common sources of lawsuits are those faced by every business owner. The courts are overflowing with cases based on complaints by disgruntled employees, disputes with partners, liability from real estate, tax problems, and good deals that turned bad.
The most conservative business approach is to combine whatever insurance coverage is available with appropriate asset protection planning. Asset protection closes the holes in coverage and once established, will be there in the future, regardless of the gyrations in the insurance market. For physicians without insurance coverage now, an asset protection plan is the only realistic alternative for continuing to operate their medical practice.
The ideal benefit of an asset protection plan is that it stops litigation before it begins. A contingent fee attorney is less likely to proceed against a physician with an asset protection plan; in the case of assets not subject to legal collection – with no “deep pocket” to pursue – an attorney will not knowingly waste his or her time and money on the case. But, if a case does proceed, for whatever reason, asset protection provides a legal shield, protecting and insulating assets from the judgment. I