Asset protection is an essential part of a person’s defense against frivolous lawsuits, unanticipated government actions, and other ways you can lose your wealth. Let me start off by explaining what role asset protection plays. Your first “defense” is to not engage in risky behavior. In other words, act reasonably and prudently. Next, make sure you have adequate insurance. (What is “adequate” is a topic for future discussion.)
Just as people share the common right to own property, there are mutual obligations related to ethical and moral behavior that we are supposed to abide as part of the social contract.
Asset protection planning, when done with a conscience, affords legitimate and vital protection from all kinds of claims.
From an ethical standpoint, it should not be possible to profit by misleading the public about the addiction risk of a pharmaceutical a company produces, and then hide those profits from the people that were harmed. Even so, the current state of the law permits asset protection – if it is done properly.
Proper asset protection is designed to protect individuals from frivolous or nuisance claims. This is important because the likelihood of being hit with a civil suit for monetary damages is directly related to an individual’s net worth. Simply stated, the more you own, the greater the risk someone will eventually try to sue you for some of it.
It’s estimated that there are more than 40 million lawsuits filed each year in the United States. (That’s one lawsuit each year for every 6 adults in the U.S.) The total number of registered lawyers exceeds one million, according to the U.S. Financial Education Foundation.
Frivolous or “nuisance” lawsuits can be a form of “legal extortion” where the plaintiff essentially abuses the legal system in hopes for a big payday, whether by settlement or trial. Tort costs alone are estimated to be $589 billion per year in the United States for these cases.
The United States is already the most litigious society in the world. We spend about 2.2 percent of gross domestic product, roughly $310 billion a year, or about $1,000 for every person in the country on tort litigation, much higher than any other country, according to Paul H. Rubin, Professor of Economics at Emory University.
By the Numbers: A Snapshot of Lawsuit Risk
The American Bar Association still reports that 94% of all the lawsuits in the world are filed in the United States.
In Arizona, where I practice law, the average civil court judgment was $902,603 last year.
Statewide, plaintiffs and defendants won exactly the same number of lawsuits. Think about that. All things being equal, they could have just flipped a coin and avoided the legal fees and years of litigation.
Over the last 10 years, the statistical chances of a plaintiff winning in any given civil case remained within the range of 48 to 63 percent. This means that defendants, who stand to lose some portion of their assets, are at a slight statistical disadvantage.
The average judgment for plaintiffs in a business case was more than half a million dollars. In personal injury cases, the verdict averaged $1.14 million.
The American Bar Association reports that a federal court in Florida fined two law firms nearly $9.2 million for filing more than 1,000 frivolous claims in over 3,700 lawsuits in Florida federal courts over several years.
The four judges in a 148-page ruling, decried the two law firms “for the immense waste of judicial resources and contempt shown for the judicial process occasioned by maintaining over a thousand non-viable claims.” The judges further noted:
“[T]he root of the problem in all these [Engle] cases is simple. Back in 2008, when these cases were originally filed, the law firm that brought them [Wilner and Farah] didn’t have the time or resources required to fully investigate all the complaints (the firm in question filed claims on behalf of over 4,000 individuals). As a result, problem after problem cropped up once the District Court started going through the inventory of cases: there were personal injury claims filed on behalf of deceased smokers, wrongful death claims filed by “survivors” of smokers who were still living, cases filed as a result of “clerical errors,” multiple cases filed for the same person, cases filed for people the law firm had no contact with, claims that had already been adjudicated by another court, cases filed for people who didn’t want to pursue a lawsuit, and claims filed long after the relevant limitations period had run. Over and over, plaintiffs’ counsel explained that these problems were the result of the unique logistical difficulties involved in managing so many individual lawsuits. And over and over the District Court reminded counsel that a lawyer’s responsibilities to the court are not diluted even by an ocean of claims.”
A significant problem in dealing with frivolous cases is that until a judge rules to dismiss the case and/or sanction the lawyer and plaintiffs, no one can say to a certainty whether a case is, indeed, frivolous. It’s all conjecture and opinion, even if it’s plain to see that any reasonable person would look at the case and consider it ridiculous. Perhaps it is, but only a judge can make that determination where it counts – in the courtroom.
This knowledge undoubtedly prompts the unscrupulous to take a chance, file a lawsuit and hope for a lucrative outcome.
Other individuals considering a lawsuit against someone may have legitimately been harmed or wronged in some way, yet their demand for relief is grossly disproportional to their claim of injury. But again, we come back to issues of opinion and conjecture. No one is going to convince me that someone who stubs his toe should be awarded $1 million in compensation for his pain and suffering. However, if my client is the one being sued for that $1 million we still must take it seriously even though we may be shaking our heads in disbelief during our private conversations.
Still, the courts do not take kindly to frivolous lawsuits. Civil fines and contempt orders can be brought against the offender. Repeated abuses can result in criminal charges. If a court decides a lawsuit is frivolous, they will usually dismiss the case without looking into the claims or further investigation of evidence.
Lawyers who engage in repeated frivolous litigation also face fines, citations, or suspension and possibly revocation of their bar license. But that hasn’t stopped the flood of frivolous lawsuits, nor does it address cases that may actually have merit, even if the demand for relief has no basis in reality.
My practice is focused on helping high net-worth individuals protect their assets before they are served with a lawsuit – frivolous or otherwise. Because you simply cannot predict when a lawsuit is coming. You can, however, calculate your risk of being sued based on your assets and net worth. No one can completely eliminate the risk of being sued. However, I tell my clients they can (and should) take steps to protect their assets in a legal and ethical manner before a problem comes along.
In my experience, people who are most anxious about asset protection have a net worth between $4 million and $10 million, or an annual income of $500,000 or greater. Below that level, people seem averse to paying any more than they already spend for insurance, which doesn’t cover everything. Above $10 million, people seem to feel more invulnerable.
My clients tend to be single people age 30 to 50 who accumulated their wealth through hard work and are worried about losing it all, not without good reason.
Although civil litigation is time-consuming and expensive, the way most plaintiffs are able to afford the cost of bringing a lawsuit against someone of high net worth is by hiring contingency lawyers who collect a fee only if they win the case. So these litigious people take a chance. They roll the dice and see if a lawsuit might result in a windfall of cash. And you can be confident that these lawyers will thoroughly vet a case and determine if a big payday is possible before they agree to represent someone. In other words, if you get hit with a civil suit the chances are good that a) the plaintiff’s attorney has established that you have money and b) feels confident in being able to win a judgment against you for some of that money.
Getting served with a lawsuit is not the time to start thinking about asset protection. In truth, if a defendant in a civil suit starts transferring money where it cannot be reached or found, a judge could order the asset turned over to the creditor, or depending on state law, criminal charges could be filed.
The proactive approach is the way to secure your property and possessions. Planning now for asset protection dramatically improves the odds that no one will be able to touch your hard-earned wealth through civil litigation.
Understanding the Legal Purpose of Asset Protection
Asset protection helps insulate assets in a proper, legal manner. This is in contrast to concealment (hiding assets) and fraudulent transfer of money out of the country when there is a known claimant. Other illegal activities involving asset protection include tax evasion and bankruptcy fraud.
When done properly, asset protection planning is completely legal, ethical and indeed, essential.
Legally solid asset protection begins before a lawsuit is filed or liability is established. Trying to protect assets after the fact will most likely prove unsuccessful and could lead to even worse consequences, including civil penalties and charges of criminal fraud.
An individual with relatively few assets who is facing liability may find bankruptcy protection to be the most cost-effective solution. For our purposes, though, we will focus on high net-worth individuals who potentially have a lot to lose in a civil suit.
The goal of asset protection planning is to create an incentive for settling claims that may arise, improve the client’s bargaining position, offer options when a claim is asserted, and, ultimately, ward off litigation as much as possible.
Common legal methods of asset protection include setting up special types of trusts and family limited partnerships. Certain assets, including retirement plans, are generally exempt from creditors under United States federal bankruptcy laws and ERISA (Employee Retirement Income Security Act of 1974).
When high net worth is at stake, the best line of defense is to discuss options with an attorney who specializes in asset protection.
Before experienced asset protection lawyers agree to work with a client, they will ask some fundamental questions for their own self-protection. These questions are intended to verify that the asset protection plan does not involve fraud or any other illegality.
Common questions a smart attorney will cover include:
- Whether the client is about to be, or has already been, hit with a lawsuit.
- Whether the client is about to declare bankruptcy or has already filed.
- Whether the client is delinquent in reporting and/or paying taxes.
- Whether the client under audit by the IRS or his state department of taxation.
- Whether the client is directly or indirectly liable for any loans.
- Whether the client is solvent and will continue to be solvent after any property transfers are completed under an asset protection plan.
What about liability insurance?
Liability insurance may offer some protection against a claim, although policies have payout limits and often many exemptions, depending on the circumstances of a claim and the assets involved. That makes it vital to understand the coverage and exclusions before buying this type of insurance.
There’s another problematic issue: holding a liability insurance policy might actually encourage a lawsuit since some people might perceive an easy payday if they can get the insurance company to settle with them and avoid a protracted legal battle. The cost of litigating a case through the courts can easily exceed the value of the liability coverage, which further encourages a pre-trial settlement. Moreover, the final legal costs of a case taken to its conclusion by trial may well be greater than the amount the plaintiff seeks in damages.
Whether the existence of insurance increases the likelihood of being sued usually depends on how the lawyer is paid. If the lawyer has taken the case on a contingency, they will make sure there is something there to collect against. Thus, a contingency lawyer wants to know if there is insurance. On the other hand, if the lawyer is getting paid hourly, they probably don’t really care if there is anything to collect against. The lawyer wants to keep litigating because that’s how he gets paid.
The issue of insurance coverage is murky. The standard rule of evidence states: “Evidence that a person was or was not insured against liability is not admissible to prove whether the person acted negligently or otherwise wrongfully.” However, that doesn’t prevent the plaintiff’s lawyer from asking about the existence of insurance in the course of negotiating a possible settlement.
The choice of whether to get minimum coverage to just cover the cost of providing a defense attorney versus getting more coverage really depends on the individual client. A seasoned asset protection lawyer will discourage clients from “going bare” with no insurance coverage. If the claim is covered by insurance, then the insurer has a duty of providing a defense attorney. Insurance should be seen as the first line of defense, and should at least have minimal coverage (starting at $250,000) to provide a defense attorney. Larger policies may be seen by plaintiffs as a “deep pocket” for a contingency lawyer to go after.
IF the client has significant unprotected personal assets or a high salary that a creditor could garnish, it’s generally better to have liability insurance with higher caps and deductibles. The reason for the high deductible is simply because it’s better to spend money on the unlikely chance of a catastrophic loss, and bear the cost of the higher deductible. A $10,000 deductible won’t ruin a life. But a judgment that far exceeds coverage limits could destroy someone’s finances and lifestyle, especially if the claim doesn’t qualify for bankruptcy.
Also, there’s also the risk of the insurance company becoming insolvent. Or the insurance company dropping you because you file a minor claim, and then you get a second claim filed against you when you no longer have coverage.
There’s no magic bullet
Asset protection solutions are not one-size-fits-all. Asset protection strategies have also evolved dramatically through the centuries.
In Medieval times, kings could protect their castles using catapults to blast fireballs and stones over the walls and onto the heads of attacking marauders. The Hunchback of Notre Dame had to improvise, by pouring molten metal from the spires of the cathedral onto would-be invaders, intent on breaking into the church.
These solutions produced immediate results, but soon became impractical as society became more civilized and laws governing property rights proliferated.
Modern asset protection, to be successful, requires careful planning and an evaluation of the best strategies for the individual’s unique needs and circumstances.
A fight over an individual’s assets involves conflict, plain and simple. If we approach conflict from the mindset of a chess player, it can be helpful to understand the opponent’s thinking.
A creditor or plaintiff in a lawsuit evaluates the odds that he will eventually be able to collect – and how much – then considers the expense involved in trying to collect. At that point the individual pursuing another person’s assets must decide how long to fight, whether to pursue a settlement and, if so, consider the likely amount that could be won in a settlement versus rolling the dice and going to trial.
Making each of these stages as difficult as possible within the legal limits of the law is at the heart of asset protection. The goal isn’t always about winning a court case, but ultimately ensuring that most or all of a client’s assets remain intact.
Whether to pursue asset protection at all depends on the individual’s appetite for risk. Those who value predictability and financial stability will more likely be inclined to discuss options for protecting their wealth.
From one perspective, people who own a house or a car generally understand the importance of having insurance to protect against the possibility of fire, theft and loss of life. Similarly, those who believe there are other risks that can’t be insured against – the chance of being sued based on a child’s car accident or employee’s actions, getting divorced, or dealing with the repercussions of an embezzling employee, for instance – these individuals might see that it also makes sense to take steps that will protect them against those losses.
Probably a better way to phrase the question would be: “What steps should I take to protect my assets, given my particular situation?”
People might also ask, “Why can’t my personal attorney do this?” The answer is that effective asset protection will involve complex legal instruments that may cover laws in multiple states and even other countries in order to protect property as thoroughly as possible from legal action. It is no longer enough for an attorney to know state law where their client resides.
In the most litigious country in the world, where state and federal lawmakers add more complex layers of statues to the books every year, talking to an attorney with deep experience in the intricacies of asset protection law should be the first step in securing an individual’s accumulated wealth over a lifetime of hard work.
John Locke convinced the world that ownership of property is an inalienable right, essential for living in freedom. It’s up to the individual to protect that property from the greed and random risks that invariably come with living among other human beings.
Paul Deloughery is a Scottsdale, Arizona, estate planning attorney who advocates on behalf of families and helps with all their estate planning needs. He is the Founder and Senior Attorney at Paul Deloughery Asset Protection, PLC. He was first admitted to practice law in 1998 and since 2001 has focused on estate planning and probate issues. He graduated with honors from the University of Iowa College of Law in 1996.