The Internal Revenue Service (IRS) is only one of many possible creditors. Litigation, divorce, environmental claims, malpractice suits and claims by other creditors may be substantially more damaging to your estate than taxes. In light of this, asset protection is an important element of estate planning and cannot be left to chance. 

Where Is the Risk?

Before designing or implementing an estate plan to protect assets, identify the potential
types of liability resulting from both direct and indirect obligations, such as those:

• On written or oral contracts,
• On bank loans,
• On gambling debts,
• As a guarantor of a loan,
• As a general partner in a partnership,
• As a result of certain tort actions for negligent acts or professional malpractice by you or someone you are in business with, and
• Deriving from either state or federal law, such as liability for spouse or child support, environmental problems, or taxes.

Beware of the Fraudulent Conveyance

Be careful to ensure that your proposed
asset-protection plan does not involve a fraudulent conveyance. If it does, the plan will not provide the protection you are seeking. In addition, violation of the fraudulent conveyance laws may subject you to both civil and criminal liability.

To avoid engaging in a fraudulent conveyance, you must be able to distinguish between
existing, probable, possible and remote creditors. In any situation, however, planning that renders you insolvent most likely will be
ineffective as an asset-protection device. If you do your planning as early as possible, and plan in segments so that fewer and fewer assets are exposed over time, you may partly avoid the issue.

Each situation must be viewed separately
because facts and circumstances play a key role. The main issues to be reviewed for
determining whether the transfer is ultimately fraudulent are:

1. The timing of the transfer as it relates to the timing of insolvency,
2. Whether the creditor existed, was likely or was merely possible at the time of the transfer, and
3. The relationship between the transferor and the transferee.

Also consider the actual intent to hinder,
delay or defraud, adequacy of consideration, openness of the transfer, and retention of control over the transferred property.

Even in the absence of actual fraud, it is still possible to appear fraudulent if:

1. The transferor is insolvent or is rendered insolvent,
2. The transferor is left with an unreasonably small amount of capital, or
3. The transferor is about to incur debts beyond his or her ability to pay.

The circumstances at the time of any contemplated transfer pursuant to an asset-protection plan must be considered.

Which Assets Are at Risk?

After you have identified the risk, you can determine which assets will be at risk. As a general rule, assets that are held in your own name or in your revocable (living) trust, or assets over which you have a power to cause distribution to yourself (such as a general power of appointment or right of withdrawal), are at risk. Note that under certain circumstances, a creditor may not be able to force you to exercise the power of appointment or right of withdrawal. Assets that are not in your name generally are not at risk. While corporate assets may not be at risk, however, your shares of stock in a corporation may be.

Certain assets are protected or exempted by law. The death proceeds of a life insurance policy generally will be protected, provided they are not payable to the insured’s estate or to a trust that is obligated by the insured’s liabilities on death. With life insurance, however, protection during lifetime is not necessarily achieved. Under federal law, the bankruptcy code permits an exemption for only $8,000 of cash value on a life insurance policy.

Although the U.S. Supreme Court has held that qualified plans under the Employee
Retirement Income Securities Act (ERISA) are outside the reach of a bankruptcy trustee or any other third party creditor, the same may not be true for assets that are held in
individual retirement accounts (IRAs) or similar plans that are not qualified ERISA plans.

Of course, once the assets are distributed, they will be subject to your creditors. The bankruptcy code sets forth a long list of additional assets that may be exempt from bankruptcy creditors. If bankruptcy is a possibility, study this list of exempt assets closely, or call us for advice.

Timing Is Important

Asset-protection planning done immediately before or any time after a liability becomes set increases the likelihood that the planning will be defined as a fraudulent conveyance, so it is essential to begin planning now.