It pays to employ some essential know-how when considering your CPA’s advice.
By David B. Mandell, JD, and Carole C. Foos, CPA
It is often surprising how few physicians have received advice or direction on asset protection from their CPAs.
Ask yourself: Has your CPA helped you shield your assets from unnecessary exposure? Likely not.
Unfortunately, even when doctors do get asset protection advice from their accountant, it is often wrong. Common mis-advice ranges from “You don’t need to worry about asset protection, you have insurance” to “Why create a professional corporation for protection … it’s not worth the expense” to “Just put the assets in your spouse’s name — that’ll protect you.”
Here’s a breakdown of these common CPA myths:
Myth 1: “Your insurance protects you.” While property and casualty insurance is strongly encouraged as part of your asset protection plan, an insurance policy is 50 pages long for a reason.
There are a variety of exclusions that most doctors never take the time to read, let alone understand. This is true for personal policies — like home- owner’s, car, and umbrella insurance — as well as business policies, the most important of which for physicians is medical malpractice.
Even if your policy does cover the risk in question, there are still risks of the claim going beyond coverage limits (malpractice judgments do periodically exceed traditional $1/3 million coverage), strict liability, and bankruptcy of the insurance company.
In any of these cases, you could be left with the sole responsibility for the loss. Even if your losses are covered within coverage limits, you may see your future premiums skyrocket.
For these reasons, it is unwise to rely solely on insurance for your protection — especially when many asset protection techniques actually will save you taxes and help you build retirement wealth.
Myth 2 (a): “You don’t need a professional corporation (PC).” There have been hundreds of physicians who have followed this advice from their accountant.
The main justification seems to be the expense and the additional paper- work (tax return, minutes, etc.). What is troubling here is that physicians seem to follow this mis-advice, while most businesspeople would not. Generally, no other owner of a significant business ($100,000 or more in annual revenues, with employees, etc.) would allow their business to operate in their own name.
When you fail to use a PC or other similar entity (PA, PLLC) to run your practice, you expose your personal wealth to any claim from the practice. While CPAs are quick to point out that the PC will not protect your assets from malpractice anyway (and they are right), they ignore all liability risks created by employees you might have nothing do with.
For example: Consider the car accidents employees might get in when driving for the business (receptionist going to pick up lunch for the office)
or a slip and fall in the office, etc. If implemented correctly, the PC would protect your personal wealth against all of these potential liabilities and more. Without one, your personal wealth would be vulnerable.
For this kind of protection, the small cost and paperwork seems to be well worth it. In fact, most CPAs themselves have such an entity in place — and nearly 100 percent of solo attorneys use one. Why is it not good enough then for small medical practices?
Myth 2 (b): “Use a ‘disregarded entity’ for tax purposes.” Related to the mistaken advice that a physician should avoid using a PC is the more common misguidance for solo physicians to have a professional entity, but to choose to have the entity taxed as a “disregarded entity” by the Internal Revenue Service (IRS).
Essentially, a sole-owned corporation or LLC can elect not to be treated as a separate entity with its own employer identification number (EIN) but, instead, as a “disregarded entity” using the social security number of the sole owner.
While CPAs recommend this as a cost-saving measure, the physician now endures the same risk as having no entity at all — that a lawsuit against the practice could “pierce the corporate veil” and attack all of the doctor’s personal assets, even if he was totally uninvolved in the activity that created liability.
While subjecting all of the physician’s personal assets to these types of risks in order to save $1,000 per year is bad enough, this advice is also detrimental from a pure tax perspective. By choosing a “disregarded” status for a sole-owned LLC, the doctor may also pay more taxes on his/her income every year than if he chose a different tax status, typically the “S” tax status would be superior here.
This advice is wrong on two levels: asset protection and tax.
Myth 3: “Just put your assets in your spouse’s name.” The third common CPA mis-advice about asset protection is that assets in your spouse’s name cannot be touched.
To see how this legal interpretation is wrong, ask yourself:
- Whose income was used to purchase the asset?
- Has the doctor used the asset at any time?
- Does the doctor have any control over the asset?
- Has the doctor benefited from “the spouse’s assets” in any way?
If you answered “yes” to any of these, most courts find that at least half of the value will be exposed to the claims against the doctor. In community property states, it may be 100 percent of the value, as a community asset.
Another good litmus test is to ask the CPA what he thinks will happen in a divorce if you follow his/her advice and put all the assets in the spouse’s name. They will probably say that the court would treat these assets as joint because you are still treating them as joint (living in the house, spending the accounts, paying the taxes). However, the court knows that you haven’t really “given the asset away” to the spouse.
Most likely, this is exactly the way the court would treat them for creditor purposes as well.
In today’s environment, asset protection should be part of any doctor’s financial plan. It is unfortunate that so many doctors are often tripped up by mis-advice from accountants.
Watch out for poor advice and meet with an advisor well-versed in these matters to be part of your team and work with your CPA.
David B. Mandell, JD, MBA, is an attorney and principal of the financial consulting firm O’Dell Jarvis Mandell LLC.
Carole C. Foos, CPA, is a tax consultant in the same firm. They can be reached at 877-656-4362.
DISCLAIMER: The author is not engaged in rendering tax, legal, or accounting advice. Please consult your professional advisor about issues related to your practice.