How big is the lawsuit industry today? It is $233 billion-roughly twice the size of the gross domestic product of Ireland. How much of that sum relates to medical liability suits? The figure is $25 billion, or slightly more than the GDP of Luxembourg.
Through medical liability premiums, neurosurgeons as a group are one of the biggest per capita contributors to this litigious behemoth, with median premiums exceeding $72,000 in 2002 and some individuals paying more than $300,000 for liability coverage. Despite the high cost of insurance, there is no guarantee that liability coverage will pay the entire cost of lawsuits. When judgments top policy payout caps or fall within policy exclusions, personal assets are vulnerable to seizure.
For this reason, state medical societies in Illinois and Missouri have pushed for legislative measures that protect doctors’ personal assets from being used to pay judgments. Unfortunately, the “lawyer lobby” killed the proposals in both states. Fortunately, however, asset protection attorneys have been altering long-established tax tools to include asset protection powers along with tax benefits. These entities can be used in all 50 states to safeguard assets of lawsuit-prone professionals.
Some asset protection measures will save doctors’ assets while others will not. It is important to understand the differences, as well as the fact that a highly sophisticated asset protection plan can often discourage attorneys from filing lawsuits in the first place.
While the following principles do not constitute legal advice, they do give information on which to base a sound lawsuit protection strategy.
Principle 1: Preparing for Lawsuits Is Better Than Reacting to Them
Some doctors have the false impression that they can transfer personal property out of their names if they are sued-a tactic that legal precedent deems a “fraudulent conveyance.” If an accident occurs on the operating table, it is already too late to rearrange the ownership of your home. Timing is the key to whether courts uphold personal asset protection measures taken by doctors. If the purpose of the action is to defraud creditors, it is fraudulent. Ironically, though, courts often rule that the same asset protection procedures taken by professionals before a potential lawsuit occurs not only are legal but also smart and strategic, especially when combined with tax legal tools.
Therefore, structuring personal assets to withstand lawsuits is an excellent dose of preventive legal medicine.
Principle 2: Divide or Be Conquered
A neurosurgeon’s assets owned in his or her name can be used to satisfy one malpractice judgment. Such assets might include, for example, a home, brokerage accounts or medical clinics. But if all these assets are owned in limited partnerships, they cannot be seized.
For instance, a home can be owned by one entity, a brokerage account can be owned by another entity and so forth. When done with sound legal planning, this can be a major step toward complete asset protection and tax planning for neurosurgeons and their families.
Principle 3: Use Research, Not Hearsay
Have you ever heard the advice, “Just put the house in your spouse’s name,” or “Just own everything in your trust”? These statements represent amateur and potentially dangerous legal advice.
For instance, transferring the ownership of assets to another’s name also transfers complete legal control to that party. Disaffected family members could then commandeer those assets. In a divorce, for example, the medical professional might then have a very difficult (and awkward) time recovering his or her due portion. Worse yet, if an angry ex-spouse became vindictive enough, assets could simply disappear completely. Despite the almost overwhelming drawbacks to owning property in the name of one’s spouse, ill-informed lawyers continue to give this advice to their physician and surgeon clients.
Today there is a new generation of domestic tax reduction entities, newly retooled to protect against a variety of claims-most importantly those that result from lawsuits. One of the best examples of these entities is the newly revamped family limited partnership.
Principle 4: Use Family Limited Partnerships
The FLP has been a tax-planning tool since 1916 when Congress first created it. With the volume of case law now substantiating this entity, FLPs have emerged as a tremendously powerful choice for lawsuit-prone doctors to own homes and other assets while reducing taxes at the same time.
FLPs are structured somewhat like a family business with a general partner, usually the doctor, who controls all the assets and income distribution of the partnership. The limited partners, possibly the surgeon’s spouse and children, receive income distributed as determined by the general partner. Limited partners make no management decisions within FLPs.
Normally in lawsuit proceedings, if a lawsuit is filed against a doctor and the plaintiff wins, the judge would issue a “turnover order” in which non-exempt property, including the surgeon’s home, stocks, bonds and bank accounts, could be turned over to the plaintiff. However, if all of the doctor’s property is held within carefully drafted asset protection FLPs, the law in all 50 states prohibits any of that property from being seized, turned over, or sold.
In fact, the terms of a carefully drafted FLP only give plaintiffs one remedy to collect on their judgment-namely, the “charging order.” This means that the plaintiff’s only right is to receive distributions from the FLP, which are made at the sole discretion of the general partner. In other words, doctors have the power to elect not to distribute income to the plaintiffs.
Further, because of IRS Revenue Ruling 77-137, the plaintiff who obtains a charging order against an FLP is required to pay taxes on this “phantom income,” which is the income of the FLP, even though the plaintiff does not receive any income at all. The result for the plaintiff is a tax bill with no income and no assets from the defendant.
There is a difference between a “plain vanilla” FLP drafted for tax reduction purposes and an FLP drafted for lawsuit protection. Asset protection attorneys have developed advanced lawsuit protection and tax reduction FLPs containing as many as 50 unique clauses not found in most FLPs.
For instance, most FLPs include weak language surrounding the right of general partners to control distributions from those who sue the partnership. Asset protection FLPs guard against this possibility by strengthening the language with the following clause: “The general partners may, at their discretion, distribute the profits and/or capital of the partnership business ‘pro rata’ or ‘non pro rata’ as they deem advisable.” In other words, general partners may legally withhold their income distributions from plaintiffs or whomever else they please.
In conclusion, neurosurgeons and other professionals have increasingly secure options through which to protect their personal assets from lawsuits. By structuring their savings and valuable property into asset protection legal tools, they can be protected by extensive legal precedent and, in the process, actually discourage lawyers from filing suits.
Trial lawyers are very skilled at winning judgments, but asset protection keeps them from collecting those judgments out of doctors’ pockets. A savvy asset protection plan such as an FLP offers neurosurgeons a way to use the legal system and not be abused by it.
Robert K. Dowd, JD, LLM, has served as a senior trial attorney for the Internal Revenue Service and as a medical malpractice plaintiff attorney. He is a speaker for the National Medical Foundation for Asset Protection, www.nationalmedicalfoundation.org, a for-profit firm that teaches medical groups lawsuit protection and tax planning principles.
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