Asset protection with substance
By David B. Mandell, Esq. and Jeffrey H. Lawhorn, CPA

How many new lawsuits are brought each year — 200,000; 2,000,000; or 20,000,000?

It may be difficult to believe, but nearly 20 million new civil lawsuits will be filed this year in state and federal court systems — about one every 14 seconds, making the odds of an adult American being sued in any one year close to 1 in 8.

If you are under 40 years old, you may expect at least four lawsuits against you in your lifetime. Add to this the specific dangers of malpractice, and you can see why litigation is a serious threat to financial security.

Why are there so many more lawsuits today than in the past? For a number of reasons:

• Everyone wants a piece of the action. Lawsuits are seen as a way to "get rich quick," rather than as a method of creating justice. Our culture seems to have embraced the belief that whenever something goes wrong, someone should pay, regardless if anyone was really at fault.

• Too many lawyers. The excess of lawyers in this country also feeds the lawsuit fire. For every person with a lawsuit of questionable merit, there is a hungry lawyer ready and willing to file the suit.

The legal business has grown tremendously in the last 20 years. All these lawyers need ways to make a living, and lawsuits are a great source of instant income, whether it be defending the suit or prosecuting it.

• People are abusing the system. Another factor adding to the explosion of lawsuits is that many people are simply abusing the legal system for their own personal satisfaction.

This trend has gotten so severe in California that the state legislature passed a law called the "Vexatious Litigant Act." This law created a list to which judges throughout the state can add names of people who are abusing the legal system by filing too many lawsuits without merit. Of course, these individuals cannot be denied their "constitutional right" to sue, but they are prevented from filing suits without attorneys, unless they have a judge's permission. The list is available to every court officer in the state.

What type of people are on this list? People who, in a judge's opinion, have repeatedly filed, without attorneys, motions and lawsuits without merit or engage in other "frivolous tactics."

WHAT YOU CAN DO ABOUT IT

Litigation is rampant, but you can limit your exposure by doing two things:

• Behave in a manner to reduce the chance that you will be sued (risk management), and
• Shield yourself from the damaging effects of lawsuits (asset protection).

The goal of asset-protection planning is to protect assets from future potential lawsuits within the framework of a general financial plan.

This goal is achieved by using existing state and federal exemptions to shield personal savings; creating protective legal structures (such as limited partnerships and trusts, to safeguard assets; and using real economic transactions involving the aforementioned methods as much as possible. Even more importantly, asset protection planning often discourages possible claimants from bringing lawsuits against you in the first place.

INDIVIDUALIZE YOUR ASSET PROTECTION PLAN

Too many medical doctors and chiropractors over the last decade have sought cookie-cutter asset protection plans to give them some "piece of mind" that if they were to endure an outrageous malpractice case, they would not lose everything.

The problem with this approach to asset protection is that one size does not fit all. Many plans, in fact, will not even "work" if they ever are relied on.

Why is this? Essentially, it is because of a basic tenet of asset protection: Any asset-protection plan that will truly stand up if challenged must have economic substance. In other words, it must stand on its own as a business decision and not merely be done for tax-avoidance.

The best asset-protection plans include:

• Accounts receivable (AR) financing. In this technique, the practice's AR balance is used as collateral for a loan from a third party.

This is a good protection plan as long as the security agreement for the loan is drafted correctly. However, the key to the economic transaction is what happens with the loan proceeds — how are they protected? How are they invested to offset the cost of the loan interest? What if the interest rate rises and the investment returns decrease?

Certainly, these are real economic concerns for a real economic transaction. Too often, unfortunately, physicians concentrate solely on the asset protection and the economic deal until too late — when they have lost significant wealth on this leverage technique.

• Captive insurance companies (CIC). In this asset-protection technique, the owners of a practice actually create their own properly-licensed insurance company, which insures all types of risks of the practice.

The risks may be economic (such as a drop in reimbursements), business (such as destruction of electronic medical records), litigation (coverage for defense of harassment claims or HCFA audits), and even malpractice (with some risk kept captive and the rest reinsured).

If it is created properly, the CIC is like any other insurance company — established in a real economic arrangement with its insureds.

• Qualified retirement plans. The term "qualified retirement plan" means that the retirement plan complies with certain Department of Labor and Internal Revenue Service rules.

You may be more familiar with the more common names of these plans — pension plans, profit sharing plan, money purchase plans, 401(k)s, or 403(b)s.

Properly structured plans offer a variety of real economic benefits: You can fully deduct contributions to these plans, and funds within them grow tax-deferred. In fact, this is likely why most practices sponsor such a plan.

Keep in mind that distributions may be subject to tax and a 10 percent penalty if withdrawn prior to age 59 1/2. What you may not know is that under federal bankruptcy law, and nearly every state law, these plans are totally protected against lawsuits and creditor claims.

• Non-qualified retirement plans. Non-qualified plans are relatively unknown to chiropractors and other physicians, despite the fact that most Fortune 1000 companies make non-qualified plans available to their executives.

You may find these types of plans very attractive to you, since employees are not required to participate and you can contribute more than allowable contributions under qualified plans.

David B. Mandell, JD, MBA, is an attorney, lecturer, and author of The Doctor's Wealth Protection Guide. He is also a co-founder of the Wealth Protection Alliance (WPA) and offers securities through National Planning Corp. (NPC), member NASD/SIPC. Jeffrey H. Lawhorn, CPA, is the founder of Lawhorn and Associates, PLLC. To reach David or Jeff, call 800-554-7233, e-mail the WPA at info@wealthprotectionalliance.com, or visit www.wealthprotectionalliance.com.