Asset Protection & LLCs
January 28, 2011
The transfer of property to an asset protection plan after liability has attached is fraudulent and will not be respected by the courts.
Asset protection is the process of arranging one’s assets to preserve maximum value for the owner and family, etc. in the event of creditor problems. It is not a single device that can be simply employed or elected. Instead, it involves the coordinated use of multiple legal disciplines, planning techniques and tools tailored to the assets and circumstances of the individual.
That being said, one of the key techniques of an asset protection strategy is to title assets in separate legal entities, but first a little background about liability and separate entities.
In this post we refer to the liabilities associated with specific assets, e.g. real estate holdings, as inside liabilities, i.e. the liability originates from the asset. For example, if a tenant or visitor is injured on the premises of an apartment building, the tenant or visitor may sue the owner of the apartment building for damages associated with his/her injuries.
An asset protection plan can help to insulate the owner from inside liabilities by having the asset owned by a separate legal entity to create a barrier between creditors and the owner's other assets. Single-member LLCs are widely used for this purpose.
We'll call liabilities not associated with a specific asset outside liabilities. An asset protection plan can also protect against outside liability. For example, if a malpractice judgment is entered against a physician, the judgment creditor will be able to attach all of the assets to which the physician personally holds title to satisfy the judgment.
A properly created asset protection plan can potentially shield assets from such outside liability attachment by having assets owned by a separate legal entity controlled by someone other than the judgment debtor. This effectively precludes the use of a single-member LLC for outside liability protection.
Charging Orders & Forced Surrender
The applicable LLC statutes of many states, Arizona included, provide that the exclusive remedy against an LLC member's interest in an LLC is a charging order. This means that creditors cannot attach the assets owned by the LLC; rather, they only have an interest in the distributions made by the LLC. If nothing is distributed, the creditor receives nothing. However, if the judgment debtor controls distributions, the court can order the debtor to make distributions or sell LLC assets. For this reason single-member LLCs are generally not effective for protecting assets from outside liability. Furthermore, courts in several of states, e.g. Florida & Colorado, have held that creditors can effectively disregard a single-member LLC and force surrender of all right, title, and interest in the LLC.
Under any asset protection plan, the transfer of assets must occur well before the liability arises.
This brief overview of some important considerations associated with asset protection and limited liability companies (LLCs) is by no means comprehensive. Always seek the advice of a competent professional when making important financial and legal decisions.