Asset protection is basically the placing of assets beyond the reach of future creditors. It incorporates traditional estate planning, which is the preservation and protection of assets for the benefit of one’s beneficiaries upon such person’s death as well as the preservation and protection of assets during the life of the person.
Asset protection should be proactive, not reactive. In other words, planning should be effectuated to protect against future liabilities as opposed to existing liabilities. Asset protection does not include the hiding of assets, committing fraud or perjury, engaging in fraudulent transfers, or evading taxes.
Traditional asset protection techniques include outright gifts or transfers to trusts. The downside to these types of techniques is the loss of control and loss of income generated by the asset. These can be accomplished onshore and offshore. To avoid the loss of control of the asset and loss of income associated with the asset, certain states, as well as certain foreign jurisdictions allow the creation of a self-settled trust, that is a trust where the settlor and beneficiary are the same. In other words, one can create a trust and be the beneficiary of the trust and still avoid a creditor from reaching the trust assets. Although there are various state laws that allow the creation of a self-settled trust for asset protection purpose, there are currently no cases allowing a debtor to create a self-settled trust and avoid the claims of creditors.
Another technique includes the creation of tenancy by the entireties ownership. Tenancy by the entireties is a special form of ownership between husband and wife where each tenant is deemed to own the whole asset. A creditor of one spouse would not be able to execute upon the property since the non-debtor spouse is deemed to own the whole property.
Yet another technique includes the transfer of assets to a limited partnership or limited liability company in exchange for limited partnership interests or membership interests, respectively. Under Florida law, a creditor of a limited partner may only obtain a charging order against the limited partnership interest. Such creditor cannot actually execute against the interest. This will only entitle the creditor to share in the profits and losses of the partnership that are actually distributed. Since a limited partnership is a pass-through entity for federal income tax purposes, it is possible that a creditor holding a charging order would receive a K-1 reflecting the partnership’s income, but actually receive no distribution from the partnership to pay for the tax.
This traditionally was also true for LLC’s and membership interests. However, the Florida Supreme Court and the 11th Circuit Court of Appeals held in Olmstead v. Federal Trade Commission, that a court may order a judgment debtor to surrender all right, title, and interest in the debtor’s single-member LLC organized under Florida law, to satisfy an outstanding judgment. The rationale given by the Court was that the Florida law on LLCs only provides that a creditor’s sole remedy is a charging order instead of the more definitive provision in the limited partnership law that provides the creditor’s sole and exclusive remedy is a charging order. This decision also had an impact on multi-member LLCs because it now remains uncertain whether the same rationale applies to allow a creditor to foreclose on membership interests.
A task-force has been put into place in Florida to draft a revision to the LLC statute which is expected to bring the statute into compliance so that the charging order is the sole and exclusive remedy of creditors. However, until such time as a new statute is drafted the use of LLCs remains uncertain as to the protection it may provide. It would be better for asset protection purposes to either use a limited partnership or a limited liability limited partnership in Florida or, alternatively, to use an LLC in another jurisdiction that explicitly provides that the charging order is the sole and exclusive remedy of creditors.
Notwithstanding the above techniques, certain assets are exempt from creditors by state statute. For example, both the proceeds and cash surrender value of life insurance and annuities are exempt from the claims of creditors under Florida law. It is also possible that the annuity interest of a grantor retained annuity trust (“GRAT”) be exempt from the claims of creditors. Individual retirement accounts and property that qualifies as homestead under the Florida law are also protected. In Havco of America, Ltd. v. Elmer C. Hill, Supreme Court of Florida, Case No. SC 99-98 June 21, 2001, the Florida Supreme Court ruled that homestead acquired by a debtor with the specific intent to hinder, delay, or defraud creditors is not excepted from Florida’s constitutional homestead exemption.