I frequently counsel physicians and other high net worth individuals who are facing substantial legal claims. These might be professional liability claims, but the following circumstances could just as easily lead to a legal claim:
- Disputes within a medical practice
- Failure of a business transaction in which the physician provided a personal guaranty
- Income tax issues
- Potential liability arising from nonmedical–related claims such as an automobile accident or other casualty
Such problems are foreseeable. In my experience, they are also more likely to generate a financial crisis for physicians than a professional liability case, in part because physicians have not prepared for them.
Asset protection is risk management. Orthopaedic surgeons who are successful and making enough money to accumulate an estate need to protect that estate by considering and taking steps to manage their risks.
Adherence to best professional practices is the best way to avoid risk. Physicians should make a point of identifying and demonstrably observing the recognized best practices for their specialty. This will minimize the risk of making errors or getting into circumstances that might give rise to a professional liability claim.
As highly educated professionals, physicians dedicate their energy and skills to medical pursuits. Some, but not all, have financial acumen. Regardless of an individual’s financial acumen, a team of financial professionals—accountants, bankers, investment advisors, and others—will be helpful in analyzing the risks and rewards of the wide array of investment opportunities that will inevitably present themselves.
Diversification of assets so that no one asset or asset class will be critical is key. Financial obligations that may have a material impact on net worth should be approached with caution. That includes, for example, transactions involving a personal guaranty and those with more money at risk than the actual investment. The income tax consequences of a transaction should be considered before entering into it to avoid a situation in which tax liability exceeds liquid assets.
Some risks are insurable. To avoid self-insurance, foreseeable, insurable risks should be covered. The following are among the insurance coverages every orthopaedic surgeon should have:
- Automobile liability insurance, including uninsured and underinsured motorist coverage
- Comprehensive general liability insurance for the primary residence and any other owned building
- Comprehensive general liability insurance with respect to the practice
- Personal umbrella or excess liability insurance coverage
- Directors and officers liability insurance coverage for any public or private board service
Orthopaedic surgeons who have families are undoubtedly concerned about the welfare of their spouses and children. In planning how to protect assets, the laws of the state of residence and the location of assets must be considered. In the United States, property rights are governed by state law and generally fall under one of three systems: Common law, community property, and civil code.
Common law property rights prevail in most states. Common law treats a spouse as a separate individual with separate legal and property rights. Each spouse owns his or her own separate property, with possible variations in the case of divorce that are beyond the scope of this article.
The community property system has been adopted by nine states: Arizona, California, Idaho, Louisiana, New Mexico, Nevada, Texas, Washington, and Wisconsin, as well as Puerto Rico. Alaska has also adopted an optional community property system. Community property treats a married couple like a partnership. Assets, income, and debts acquired during a marriage are evenly split between the spouses.
In community property states, simply transferring some assets to a spouse doesn’t necessarily protect them from creditors. The debts of one spouse will be treated as the debts of the other spouse. Depending on state law, creditors may be able to reach all or part of the community property, regardless of how it is titled, to satisfy debts incurred by either spouse. State laws vary greatly on what property can be reached.
Louisiana’s legal tradition is uniquely derived from France—a “civil code” jurisdiction. Property rights and asset protection are highly specialized and require the advice of a local attorney.
Orthopaedic surgeons who have substantial net worth and are not facing substantial claims, either professional or financial, should start now to protect their assets. One way to maintain control over assets is by giving them away.
Under the law, creditors have substantial rights. They can take away any assets that are not exempt from judgment under the law. Attempts to incur insolvency or to transfer assets made with the intent of hindering, delaying, or defrauding creditors are illegal. Such transfers to family or friends are said to bear a “badge of fraud” and are presumed to be fraudulent.
On the other hand, transfers made while the individual is solvent and in good financial shape are not fraudulent. Additionally, transactions that are beyond the applicable statute of limitations can’t be attacked.
The homestead exemption, which protects all or part of an individual’s equity in his or her home from creditors, is valuable and automatic in most states, although others require that it be perfected by a filing. The exemption amount varies greatly from state to state. It is unlimited in Florida and Kansas, among other states. New Jersey still doesn’t have a homestead exemption.
Tenancy by the entireties (shared ownership of the home) is a great idea in common law states and should be used. This protects the house because individual debts may not be paid with “entireties property.” States like Florida will allow financial assets to be maintained in the entireties as well.
But in community property states, the debts of the physician spouse are also considered to be the debts of the nonphysician spouse. In these states, tenancy by the entireties is not available.
A possible alternative is a Qualified Personal Residence Trust (QPRT). Under a QPRT, the person who owns the residence to begin with and creates the trust reserves the right to live in the house for a specified period of time. This interest is called the “retained interest” because it is what the settlor retains. At the end of that period, the ownership of the residence goes to the beneficiary(ies). This interest is called the “remainder interest,” and the beneficiaries, typically the children, are the “remainder beneficiaries.” A QPRT can provide tax savings as well as a potential measure of protection against creditors.
Protecting business assets
From a tax and business standpoint, leasing might be better than owning business assets. Acquiring business assets through a family limited partnership or family limited liability company might be beneficial in either a common law or community property jurisdiction. Although financial backing in the form of a personal guaranty might be necessary, the owner of the assets could lease them to the physician, who then risks only the leasehold interest. Leasing also offers tax advantages because lease payments can be treated as expenses. And assets can be part of a family inheritance.
When it comes to business entities, a single stockholder corporation or limited liability company doesn’t help protect business assets much. A creditor or bankruptcy trustee can typically seize the stock or interest in the venture.
A minority interest in a practice poses a more difficult problem to the creditor. The minority interest in a corporation is worth a lot less than the actual fractional interest of the whole. It doesn’t carry with it the right to control the practice or its distributions.
This is also true of a limited liability company. Although a creditor has the right to seize the stock interest of the corporation or to foreclose on the limited liability membership interest, these rights are subject to preexisting buy-sell agreements or rights of first refusal in favor of the existing members.
Some states, including Alaska and Delaware, allow individuals to establish a trust, maintain control over it, and protect assets against creditors. Physicians located in these states could take advantage of this opportunity. However, these “domestic asset protection trusts” may not be recognized in other states.
A recommendation to establish offshore credit protection schemes such as “foreign asset protection trusts” should be viewed with skepticism. Although these trusts may put formidable roadblocks in front of creditors, they are exotic, expensive, complex, risky, and not for the faint of heart.
An irrevocable trust established while the physician is solvent, problem-free, and with no intent to hinder, delay, or defraud creditors, on the other hand, has an excellent chance of withstanding creditor scrutiny.
Every state exempts some measure of assets from creditors’ claims. Some states, like Texas, have very generous exemptions. Other states, like Indiana, have very few exemptions. But physicians should realize that, if they move from one state to another, the new state’s exemptions won’t be available in the event of bankruptcy for 2 years.
Fully funding a qualified retirement plan, like an IRA, 401(k), or 403(b) plan is a great idea. Such plans are almost always fully exempt. Cash surrender value on whole life insurance policies is exempt in some states, at least to some extent.
However, it’s not a good idea to convert nonexempt assets to exempt assets when facing financial dangers. These transfers could be deemed as being made to defraud creditors and could have significant and highly negative consequences in the event of bankruptcy.
Asset protection is a fundamental part of risk management, which must be considered and practiced by individuals such as orthopaedic surgeons who have a high net worth. Effective asset protection requires good legal and tax counsel. Readers are strongly encouraged to seek assistance from qualified individuals who regularly practice in this area in their jurisdictions.
Editor’s note: The information contained in this article is intended for general information purposes and should not be considered legal advice. State laws vary, and individuals who need legal advice should contact a duly licensed professional familiar with laws in their state.