I|AII DI O]] !An expert shows you how

to protect your hard-earnedassets against being seized

in a malpractice lawsuitby Jacob Stein, JD

f, ccording to the US Departmenr of

! l Justice. approximately one half ofII all medical malpractice lawsuits arefiled against surgeons,r even though sur-geons represent only 14.5Vo of practicingphysicians.'? Surgeons, particularly plasticsurgeons, are perceived by plaintiffs'attor-neys as desirable litigation targets becausethey eam on a nationwide average doublewhat general practitioners earn.l

Higher earnings lead to greaterwealth, and plastic surgeons find them-selves facing numerous malpractice law-suits. The vast majority of these lawsuitsare frivolous-a plaintiff succeeds in onlyone out of every four medical malpracticelawsuits.r However, given the sheer num-ber of lawsuits filed, surgeons are justifi-ably worried about those that may exceedtheir insurance coverage or that may notbe covered by malpractice insurance.

Asset protection is a field of law thatdeals with structuring asset and businessownership to make it either impossible orat least very expensive for a plaintiff toreach the defendant's assets. Ifa surgeon'spersonal assets are impossible or too diffi-cult to collect against, a plaintiff's attor-ney will either not file the lawsuit in thefirst place, or will be a lot more willing tosettle on terms favorable to the surgeon.

Asset protection does not deal withsecrecy or hiding assets, because an intel-ligent and determined creditor will alwaysbe able to unearth hidden assets. A prop-erly structured asset-protection planwould use commonly used structures suchas trusts and limited liability companies ina manner that would legally, ethically, andeffectively shield a surgeon's assets fromany lawsuit and any creditor. Surgeonswho implement asset-protection plans

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will be able to sleep soundly,knowing that whether they are hitwith a malpractice claim or areinvolved in an traffic accident theirassets will be safe and unreachable.

Once the plaintiff obtains a legaljudgment against the surgeon in a mal-practice lawsuit, the plaintiff becomesa creditor of the surgeon and the sur-geon becomes a debtor. The plain-tiff can now use the judgment tocollect and attach almost anyand every one ofthe surgeon's : ,

[:T:J.i-,,1,:Tffi::',J:f dafl asset-protection plan-

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ning is to remove rhe ' l i

debtor-surgeon from legalownership of his assets while retaining thesurgeon's control over and beneficialenjoyment of the assets.

There is no "magic bullet" asset-pro-tection strategy. Depending on the assetsowned by the surgeon, the plaintiff'saggresslveness, and certain other factors,different structures will be used to protectthe surgeon's assets. The timing of theplanning is important as well. While it isalways possible to engage in asset-protec-tion planning-even after a lawsuit hasbeen filed-the planning will be a lot moreeffective and simpler when it is imple-mented before a malpractice claim arises.

Personal ResidenceNo asset is more important to shield

from creditor claims than a personal resi-dence. Personal residences represent thebulk of many people's fortunes and havegreat sentimental value.

Creditors pursue not the residenceitself, but rather the equity in the resi-

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\sdence that can be converted into moneythrough a foreclosure sale of the resi-dence. There are two equity-strippingtechniques.

One way to strip out the equity is byobtaining a bank loan. Even if we assumethat a bank would lend an amount suffi-cient to eliminate 100Vo of the equity, thecost of this asserprotection technique isstaggering. A $1 million loan bearing a'|Vo

interest rate costs $70,000 per year.Another way to strip out the equity is

to encumber the residence by recording adeed of trust in favor of a friend. Thisavoids the carrying costs of an actual bankloan. With this technique i t is important toknow the creditor's intelligence andaggressiveness.

Some creditors may stop trying to col-lect when they realize that there is no equi-ty in the residence. Others may dig deeper,and if the debtor cannot substantiate thetransaction as an actual loan, the deed oftrust will be set aside by a court as a sham.

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In addition to stripping out the equity,it is also possible to protect the residenceby transferring ownership but retainingcontrol and beneficial enjoyment. Thiscan be done in several ways.

An arm's-length cash sale is the bestway to protect the residence (and the equi-ty in the residence), because it is mucheasier to protect liquid assets (see discus-sion below) than real estate. Whereas thistechnique affords the surgeon the bestpossible protection for his home, it is alsothe most radical and may result in addi-tional income taxes. This technique isusually reserved for surgeons facing verydetermined plaintiffs, or for surgeons fac-ing government agencies.

An alternative to an outright sale isthe sale and leaseback of the residence toa friendly third party on a deferred install-ment note. This allows the surgeon totransfer the ownership of the residencewithout having to move out. This struc-ture works only so long as the surgeon canestablish the sale's legitimacy and arm's-length nature.

The contribution of the surgeon's res-idence to a limited liability company(LLC) or a limited partnership may beanother way to protect it. The protectionafforded by LLCs and limited partner-ships is derived from the concept of thecharging order protection, which isaddressed in more detail below. Whereasthe charging order protection is generallypowerful, its usefulness may not extend topersonal residences.

Certain state statutes require LLCs orlimited partnerships to have a businesspurpose. and there is no business purposein holding a personal residence in a legalentity. Other downsides may include theloss of the $500,000 gain exclusion on thesale of the home, the loss of the home-stead exemption, and the triggering of the"due on sale" clause in the mortgage.

The final available alternative to pro-tect a personal residence is to transfer theownership of the residence to a ffust com-monly referred to as a personal residencetrust (PRT). This is a trust established ini-tially for the benefit of the surgeon andthe surgeon's spouse and later for the ben-efit of the surgeon's children or other ben-eficiaries. Because the trust is irrevocable.

it is treated as the owner of the residence.although the surgeon retains full controlover his residence by appointing a friend-ly trustee.

The trust allows the surgeon to sellthe existing home, buy a new home. andrefinance. The surgeon retains all themortgage interest deductions and theexclusion of $500000 of gain on the saleof the residence. Also, the transfer intothis trust does not trigger the "due onsale" clause in the mortgage. In practice.PRTs have proven to be a simple and anextremely effective way of protecting apersonal residence.

Other Nonliquid InvestmentsSome of the techniques discussed

above may be used to protect rental realestate, businesses, intellectual property.col lect ibles, or other valuable assets.These assets may be transferred into irrev-ocable trusts, sold for cash or on aninstallment basis, or encumbered. How-ever, for assets other than a personal resi-dence, there is a much better and simpler

way to achieve as much or more protec-tion: an LLC or a limited partnership.

Assets owned by a surgeon throughan LLC or a limited partnership are notdeemed owned by the surgeon becausethese entities have their own separatelegal existence. If a surgeon transfers theownership of his apartment building intoan LLC, the surgeon will no longer betreated as the owner of the apartmentbuilding. He or she will now be treated asthe owner of a membership interest in theLLC. This means that a plaintiff suing thesurgeon will no longer be able to reach theapartment building directly; he wouldnow have to pursue the surgeon's interestin the LLC.

Forcing the plaintiff to pursue anownership interest in an LLC or in a lim-ited partnership is much more advanta-geous for the surgeon, because interests inLLCs and limited partnerships are notsubject to attachment by a plaintiff. Thisis known as the charging order protection.

The charging order protection limits aplaintiff's remedy to a lien against the dis-tributions from the legal entity, withoutconferring on the plaintiff any voting ormanagement rights. Because the surgeon

will remain in control of the entity andcan defer distributions, the plaintiff willhave no way of enforcing the judgment

against the surgeon's LLC or limited part-nership interests, or the assets owned bythese entities.

Assets owned by a surgeon through acorporation would not enjoy the sameprotection. There is no charging orderprotection for corporate stock. This meansthat the same apartment building ownedby a surgeon through a corporation can beseized by a creditor by first seizing thecorporate stock owned by the surgeon.

As a practical matter, LLCs and limit-ed partnerships create a formidable obsta-cle to the creditor's collection efforts andusually force the creditor to drop his col-lection efforls or to settle. These entitiesshould be considered by surgeons for allvaluable assets with the exception of theirpersonal residence, and, as discussedbelow, liquid assets.

Liquid AssetsLiquid assets may be protected

through many of the techniques describedabove, including LLCs, limited partner-ships, and irrevocable trusts. In additionto these techniques, liquid assets may alsobe protected with a foreign trust.

The term "foreign trust" means anirrevocable trust governed by the laws ofa foreign jurisdiction. Several foreigncountries have enacted trust lawsdesigned to assist debtors with asset pro-tection. The laws of these countries gothrough every step possible to make itimpossible for a plaintiff to pursue theassets of a foreign trust.

These foreign countries erect the fol-lowing obstacles in the plaintiff's path:. They will not recognize a legal judg-

ment from any other country, includingthe United States. This means that amalpractice judgment obtained against asurgeon in the United States becomesuseless to the plaintiff.

. Because the plaint i f f 's attorney is notlicensed to practice law in that foreigncountry, he would have to hire localattorneys to litigate for him-which is avery expensive proposition.

. The trustee of the foreign trust is a trustcompany that has no connections to theUnited States, which means that a USjudge will not be able to force thetrustee to distribute trust assets to theplaintiff.

The assets transferred to a foreigntrust-such as bank accounts or brokerageaccounts-are usually liquid, but they canalso include intellectual property, interestsin legal entities, and other assets. The

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assets owned by the trust can be locatedanywhere in the world, including theUnited States or Europe. The assets arealmost never held in the same countrvwhere the trust is set up.

Most of these trust structures areestablished in a manner that would allowthe surgeon to be the only one who canknow what assets are owned by the trustand to be the only one who can access thefunds of the trust. Even the trustee of thetrust can be effectively prevented fromhaving access to the surgeon's assets.

Over the years, foreign trusts havebecome a favorite planning technique formany surgeons and other debtors. Thesestructures are perfectly legal, tax neutral,and extremely effective in protectingassets from lawsuits.

It should be noted that many debtorsbelieve that simply moving money to an

offshore bank account will serve as sufFr-cient protection from creditors. While theplaintiff may have a difficult time enforc-ing his judgment in a foreign country and

levying on a foreign bank account, thesurgeon-debtor will never have a problemwithdrawing the money if the account isdirectly in the surgeon's name. Con-sequently, the plaintiff may petition thecourt to direct the debtor to withdraw themoney from the foreign account and payit over to the plaintiff. With a foreign trustthat can never be a problem, because thesurgeon technically does not own theassets of the trust.

Surgeons will always be targets oflawsuits. The only way to change that isby removing a plaintiff's financial moti-vation for pursuing the surgeon. Assetprotection is a simple, inexpensive, andeffective means of changing the plaintiff's

financial analysis and making the surgeon'Judgment proof." As with any other plan-ning, asset protection is a lot more effec-tive when implemented in advance. PSP

Jacob Stein,JD, is a partner with the InsAngeles law firm of Boldra, Klueger &stein, LLP, which focuses on tax andasset-protection planning for US pro-

fessionals and business owners. A fre-quent lecturer and writer on tax, estate,and asset-protection planning, he wel-comes comn ents at (818) 598-2252 orj acob @ Iataxlawy e r s.c om.

Referencesl. US Department of Justice, Bureau of Justice

Statistics, Medical malpractice trials and ver-dicts in large counties, 2001. Available at:http://www.ojp.usdoj.gov/bjs/abstract/mmtvlc0f .htm. Accessed January 4,2N1 .

2. US Department of Labor, Bureau of LaborStatistics. Available at: http://www.bls.gov/oco/ocos074.htm#earnings. Accessed January4.2N7.

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