Limited liability companies: The foundation of asset protection for many physicians
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The reality of health care practice in the 21st century is that lawsuits and liability lurk in the background for physicians.
In the quest to protect themselves from future litigation, many physicians choose to engage in asset protection, and they are wise to do so. In the field of asset protection, there are many types of tools to utilize, including ownership forms with spouses, assets that are exempt under state or federal law and trusts. Perhaps the most widely used legal structures for physicians are limited liability companies (LLCs).
How LLCs protect assets
In order to understand how LLCs provide protection, we must first examine both inside risks and outside risks.
Inside risks are those that threaten an LLC and its assets from the inside. These are risks the legal entity faces because of its activity. Examples of inside risks for a medical practice LLC would include lawsuits by its patients for malpractice. For an LLC that owns real estate, inside risk would include slip and fall injury claims. In the LLC, none of the passive owners (called “members”) are liable for the liability of the business.
Outside risks are potential claims against the interest of the owners in the LLC. For example, an outside claim might be a successful claim against a physician for malpractice that has led to the plaintiff wanting to access the assets outside of the practice (personal assets) to satisfy the judgment. For outside risks, LLCs are asset protectors because the law gives a specific and limited remedy to creditors coming after assets in either type of entity. When a personal creditor pursues you, and your assets are owned by an LLC, the creditor cannot seize the assets in the LLC.
If the creditor cannot seize LLC assets, what can the creditor get? The law normally allows for only one remedy: the “charging order,” which a creditor can be granted by a court against a debtor’s interest in an LLC. Essentially, this order allows the creditor to get distributions. In other words, the creditor must legally be paid any distributions that would have been paid to the debtor. However, the creditor cannot get inside the LLC or get management or voting rights. The charging order is meant to allow the entity to continue operating without interruption, yet provide some remedy for creditors. Of course, this assumes an LLC agreement is properly drafted and all formalities are followed every year.
Using the LLC to shield assets
To use an LLC to shield assets, one must simply have the assets owned by the entity rather than have them in the physician’s or spouse’s name. Then, the physician and spouse can be made the parties in control of the entity and assets (LLC manager), and can be the passive owners (LLC members). Beyond this, the following key success factors can help ensure the proper protection afforded by LLCs:
1. Don’t put all eggs in one basket
One never knows when a court of law will make a surprise departure or deviation from accepted legal norms or precedents. Because savvy physicians understand they cannot control court decisions or the litigious nature of society, they protect their assets by using multiple LLC arrangements to title their assets. Titling assets in different legal entities makes it more difficult for any creditor to come after one’s entire wealth because the creditor may have to conduct more investigations, file more motions with the court and perhaps even travel to different states. As a result, creditors will be more likely to negotiate more favorable settlements.
2. Segregate “dangerous” eggs from “safe” ones
Dangerous assets are those that have a relatively high likelihood of creating liability, such as real estate (especially rental real estate), vehicles/boats and closely held businesses.
Safe assets, conversely, are those that are unlikely to create liability, like bank accounts, securities, artwork, cryptocurrency and patents.
Separating safe assets from dangerous assets simply increases the “inside” asset protection for the safe assets.
3. If possible, use LLCs in the most protective states
Not all LLCs are created equal. LLCs vary greatly in their asset protection, estate and tax benefits based on the experience and expertise of the attorney drafting the operating agreement. However, the point here is that some states have more protective language in their LLC statutes.
For some assets, like investment accounts, a physician may have the option to use LLCs in states that are more protective than their home state. As examples, states like Nevada, Ohio and Delaware have passed restrictive LLC statutes designed to provide the highest level of protection for entities established in their state. In theory, this is no different than why so many Fortune 500 companies are based in Delaware. The laws there are the most protective of corporate officers and boards.
As an example, a physician might live in State X and set up an LLC in Ohio for its top-level protection laws. Their litigation risk still resides in State X, where they live and practice medicine. Certainly, if they are ever sued, it would likely be in State X and, if the LLC were attacked by a plaintiff in State X, a court overseeing that lawsuit may be inclined to apply local law even with respect to an Ohio LLC. Nonetheless, if the costs of using a “better LLC state” like Ohio are not much more (or are even less) than setting up an LLC in your home State X, then we generally recommend it. In essence, if it doesn’t cost you a lot more to avail yourself of better protection rules in another state, there is no real reason not to so do.
4. Adhere to all formalities
Regardless of the state where an LLC is formed and the assets it owns, the legal entity must follow all formalities to enjoy the protections it can be afforded under the law. This includes timely filing of tax returns and legal documents, conducting annual meetings and documenting meeting minutes and consents. Another crucial formality that many physicians ignore is to avoid any commingling — an LLC should pay for any expenses related to its operation, but not pay for personal expenses of the LLC owners (physician and family members).
Conclusion
LLCs are often the building blocks of asset protection planning for physicians. To get the protection they can afford, implementation of the above tactics is essential.
Reference:
Wealth Planning for the Modern Physician and Wealth Management Made Simple are available free in print or by ebook download by texting HEALIO22 to 844-418-1212 or at www.ojmbookstore.com. Enter code HEALIO at checkout.
For more information:
Sanjeev Bhatia, MD, is an orthopedic sports medicine surgeon practicing at Northwestern Medicine in Warrenville, Illinois. He can be reached at sanjeevbhatia1@gmail.com or @DrBhatiaOrtho.
David B. Mandell, JD, MBA, is an attorney and founder of the wealth management firm OJM Group www.ojmgroup.com. You should seek professional tax and legal advice before implementing any strategy discussed herein. He can be reached at mandell@ojmgroup.com or 877-656-4362.
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