So, you’ve been contemplating calling an estate planner for years to get a will. That is likely not enough. Certainly, you should have a durable power of attorney to address financial and legal matters if you are disabled and a health proxy so someone can make medical decisions for you. That’s perhaps even obvious. But, what about asset protection planning? No, that’s for doctors in high-risk specialties, not for regular folk like you. Right? Wrong! Better understanding asset protection planning may be essential for your financial well-being.
Most, perhaps every, consumer should address some asset protection planning. The question should be not whether you should, but to what degree you should do so. Asset protection planning is not only for the high-income/high net worth surgeon who specifically asks for that type of advice. Perhaps the largest number of people who may benefit from asset protection planning are those who are at most mildly concerned about asset protection issues, or not even aware of the need for such planning. Most consumers do not realize the exposures they face, or the potential ways they can reduce (never eliminate) their liability risks.
Some of the protective steps that can be taken may even be obvious to you, and may not require specialized legal expertise, some will. One key concept is for you, and your advisers, to be sensitive to these ideas so that they are addressed.
Let’s consider an example to illustrate how a rather ordinary couple might need and benefit from asset protection planning. The example will also illustrate how some consumers who may assume that they don’t need estate tax planning may need very similar planning to address liability risks they might face.
John and Jane Smith are a rather ordinary and typical married couple in their 50’s with two children, Jimmy, and Joan ages 16 and 17. They view their lives as conservative, even boring, and pretty risk free. The Smiths contact an estate planning attorney to obtain a will. They know it is time that they named guardians for their kids, and they assume everyone should have a will.
During the initial interview the Smiths mention to their new lawyer that they own a vacation home they rent much of the year, they own a retail business, and both of their teenage children drive cars. Jane is on the board of their local hospital. After this discussion, the couple still does not view themselves as facing any meaningful risk. The Smiths just don’t see any reason to think about asset protection planning as their income and wealth are not, in their view, substantial. They live a rather ordinary and conservative lifestyle, and neither they nor anyone they know has ever been sued.
Their new attorney explains that they should discuss asset protection planning. She explained that even though the Smiths did not view themselves as wealthy or high-income, their $4 million net worth and $350,000 annual income suffice to make them a target for claims. The attorney suggests that they have ample wealth and income to protect. The potential risks the couple faces are significant, even though the Smiths are surprised by that statement and unaware of any risks. So, they ask their attorney to explain the risks that she considers worth discussing.
Teenage drivers are a significant risk and one that every parent should plan for. Might a parent be held liable for the accidents of their teenage child driving? While the law is not fully clear, if the parent was aware of prior issues the child had (e.g., prior accidents, driving tickets, etc.), or if the parent owned the car that the child drove, etc. the parent could be held liable. Having the child, not the parent, own the car, assuring adequate insurance coverage including excess liability policies, and protecting the parents’ assets, may all make sense.
The Smiths’ vacation home raises another exposure they did not realize. A rental property of any type should be held in a limited liability company (LLC) or other entity. Many consumers do not realize the exposure a simple rental home can create. Some consumers may even assume that their vacation homes are not business properties since they use them as well. Some consumers apply for a mortgage reflecting a vacation home incorrectly as a personal residences, and not as a rental property. Similarly, many consumers insure residential rental properties as a residence, not as what they are, a commercial rental property. Thus, without an entity to insulate other assets from liability, and potentially inappropriate insurance coverage, that simple rental home that did not raise an iota of concern for the Smiths, could prove to be the Achilles heel of their overall plan and future financial goals. The Smiths could create an LLC to own the property, evaluate asset protection planning for other assets, contact a property, casualty, and liability insurance company to review and revise their insurance coverage, etc.
The retail business the Smiths own and operate may be owned by an entity created by them online, or prior advisers. In some cases, despite the ubiquitous use of LLCs, consumers own business interests in their personal names instead of in an entity. But even if an entity owns the business, have all business assets been titled in the entity? Have the Smiths filed all required annual or other reports with the state where the entity was formed? Does the entity remain in good standing? Has the Smiths’ CPA reported the business operations under the entity? Does the entity have its own insurance coverage? Have the Smiths observed the requisite formalities required for the entity (minutes, bylaws, shareholders’ agreement)? The list of potential asset protection considerations for even a simple family business that consumers frequently overlook is substantial. Addressing the laundry list of these points and obtaining guidance and documentation to adhere to business entity formalities that have been missed, can be invaluable to help protect the Smiths’ wealth.
The Smiths’ new estate attorney explains that retirement assets may be protected from the reach of claimants. But in discussing the retirement plan at their retail business, the attorney discerns that the Smiths have been “cute” about trying to avoid covering some of their part-time workers because of the costs involved. That action might jeopardize the retirement plans qualification and the protection that their otherwise qualified plan may have provided. The Smiths’ new attorney recommends that they review the formalities of their plan and compliance with applicable coverage requirements with an ERISA attorney.
Jane Smith serves on a local charitable board. Many consumers do not realize that serving on a board can bring additional liability exposure. Consumers often tend to focus only on the honor of the appointment, not the liability it may create. The Smiths’ attorney explains to Jane that she may be held liable for a breach of her fiduciary duties as a director. That means that the appointment should be taken seriously. Jane might be certain to attend most board meetings, ask questions if concerned, save documents distributed at board meetings, and keep notes of points she made when various matters were considered to show that she participated in a responsible and reasonable manner. If a director on a charitable board receives any type of personal benefit that may create liability exposure. So, Jane should be particularly cautious of that. Does the charity have directors and officers (D&O) liability insurance coverage to protect its directors for defense costs, settlements, and judgments if a suit arises? Jane’s new attorney recommends she inquire to find out about the details of such coverage. Also, she recommends that Jane review their homeowner’s coverage to see if it provides any coverage. While discussing homeowners’ coverage their attorney inquires as to the amount of personal excess liability (umbrella) insurance coverage that the Smiths have. When they respond by asking what that means, their attorney explains and suggests they consider at least $3 million of coverage considering their liability exposure and net worth.
When their attorney begins to discuss estate planning, the Smiths are surprised since they had assumed that with the current high gift, estate, and GST exemptions that they don’t need to address estate planning. They were not aware that the exemptions would be cut in half in 2026. But even with that the growth of their business and investments might never get their estate up to the tax threshold. But the Smiths’ liability profile might suggest otherwise. Creating non-reciprocal spousal lifetime access trusts (SLATs) might be unwarranted from an estate tax planning perspective. These are trusts that are typically created by spouses with $10 to $40+ million of net worth in order to safeguard a portion of their gift tax exemption ($12,060,000 in 2022 but inflation-adjusted in future years, but scheduled to be reduced by ½ in 2026). The Smiths might even believe that their life insurance coverage of $1-2 million each didn’t need to be in the trust since even with those insurance amounts their estate should not face an estate tax. Apart from the estate tax considerations, similar planning may be worthwhile to protect the Smiths against the liability risks they face teenage drivers, rental property, active business, charitable board. Those specific risks are in addition to the general risks everyone faces in our litigious society (auto accidents, injury at their primary residence, etc.). Considering all the risks in aggregate discussed above, creating non-reciprocal SLATs to own life insurance and as much of their non-retirement assets as is feasible, might be worth considering, their attorney suggests. That type of plan may provide important protection from many of the claims that the couple might face. So, despite the fact that from a tax planning perspective irrevocable trusts seem unwarranted, from an asset protection perspective, those plans may well be advisable.