The ABCs of Asset Protection

By Mark Hasenauer, Wealth Plan & Goals Base Advice Leader

Asset protection is an important wealth preservation strategy for many individuals regardless of profession, level of wealth, or family situation. In this article, we will discuss some of the situations in which asset protection concerns might arise and present some options to consider in choosing a course of action that is right for you.

Marriage and marital assets
"Equitable distribution" and "elective share" are two concepts that address property rights between married individuals. Generally, in most US states, assets accumulated during marriage are considered marital property and in the event of a divorce are subject to equitable distribution. In the nine "community property" states (Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin), marital property is considered equally owned by each spouse and will typically be divided evenly in a divorce. Equitable distribution or community property in a divorce is essentially the idea of splitting marital assets equally between the two parties without regard to which party contributed more financially during the marriage.

If one spouse dies and a minimum level of assets are not passed to the surviving spouse upon death, that spouse may have a remedy by making a claim for his or her 'elective share' against the deceased spouse's estate. While state laws vary in terms of the what constitutes the elective share, generally, the election will provide the surviving spouse with approximately one-third of the value of the assets in the deceased spouse's estate.

One strategy to protect assets from a marital claim is to enter into a pre-nuptial agreement prior to getting married. It is important that both parties engage their own legal counsel (who is knowledgeable in family law) while undertaking the process of negotiating and executing this contract.

Another strategy is to enter into a post-nuptial agreement with the help of qualified legal counsel. The post-nuptial agreement may contain the same terms as the pre-nuptial agreement except that it is executed after marriage. Anyone married and reading this article might wonder why anyone would enter into a post-nuptial agreement. The reason is that financial matters can be a common cause of stress in a marriage and the post-nuptial agreement may relieve some of those points of contention now with hopes of continuing the marriage.

Using trusts for pre-marriage planning may also be a consideration. Someone may choose this option to safeguard some of their assets prior to marriage and avoid the need to ask for a pre-nuptial agreement from their future spouse. Like any asset protection strategy, this should be done under the advisement of legal counsel with a thorough understanding of the various state laws that may come into play if your future ex-spouse makes a claim to these assets. While we cannot give legal guidance, there are some things worth mentioning. If you transfer assets to a trust while married and you retain the right to control or benefit from those assets, they may still be subject to a spousal claim depending upon the state laws where the trust is administered as well as the laws where you or your spouse reside, or where the assets are located.

Protecting assets from divorce is not the only area of concern. There is also the issue of protecting marital assets from creditors and third parties. Two assets that can make up a large portion of a couple's net worth is their home and separate qualified retirement accounts. Owning a home as "tenants by the entirety" (almost half of the US states and the district of Columbia recognize this specific type of joint ownership account) with your spouse is one effective way of protecting the house against a claim from a creditor of one of the spouses. The reason being is that each spouse owns an undivided interest in the property. Note that this is not the same as owning a house as joint tenants with right of survivorship. Also, some states like Florida provide for a homestead exemption that provides a level of asset protection against creditor claims.

Retirement accounts include employer sponsored 401(k) accounts as well as IRAs held by each spouse. As will be explained further below, while the assets held in an employer sponsored ERISA qualified plan are exempt from the claims of creditors (other than spouses) under federal law, funds held in an IRA may receive a lower degree of asset protectection based largely on state law.

Inheritance and trusts
A common objective for individuals passing assets to children or other heirs is to protect them against future creditors. Passing assets outright to heirs may leave those assets vulnerable to any such existing or future claims. One consideration in providing protection is to leave the assets in trust. While state laws vary on the level of protection that a trust may provide, having a trust own the assets with a defined set of rules on how and when the assets may be distributed can be a deterrent for potential creditors. The need to balance protecting the assets (by restricting access and control) with giving the heirs the ability to use their inheritance is a consideration that can impact the effectiveness of the strategy.

Professional occupation concerns
An individual's professional occupation may create the potential for claims from lawsuits or creditors. Professional liability insurance and ancillary insurance coverage may not be enough to satisfy a potentially large judgment. In these cases, utilizing an asset protection trust in states such as Delaware, Nevada or South Dakota that have adopted asset protection trust laws may provide an attractive solution. Asset protection trust protections will differ based on the individual state laws. However, they can provide heightened asset protection if the rules of that state's asset protection trust laws are followed in creating and funding the trust and the assets titled to that trust are not otherwise located in another state which may exercise jurisdiction. It is important to work with a trust attorney who understands the asset protection trust laws for the jurisdiction in which the trust is to be administered; the potential source of claims against the assets; and the impact of placing assets in trust which are physically located in and/or operating out of other states.

Qualified plan assets and IRAs
When it comes to qualified plan assets, title and location matters. As mentioned earlier in this article, assets held in employer sponsored plans covered by ERISA, like 401ks, are exempt from creditors under federal law. If qualified plan assets under ERISA are rolled-over to an IRA, the account will usually be titled as a "rollover IRA" and will continue to receive the same level of asset protection in the event of bankruptcy provided under ERISA.

Traditional contributory IRA's are not covered by ERISA and have a limited exemption under federal law in the event of bankruptcy. Aside from bankruptcy, IRAs receive varying levels of creditor protection depending on the applicable state law.

What happens when the "rollover IRA" account owner dies? If the assets pass to a spouse, they can be taken as a spousal rollover into his or her own traditional IRA or rolled into an inherited IRA. If the assets pass to any other beneficiary, the assets will pass to an inherited IRA. There is no federal asset protection afforded to inherited IRAs in the case of bankruptcy. However, that does not have to be end of the asset protection story. Like other forms of inheritance, the account owner can name a trust as the beneficiary of his or her IRA.

Naming the trust as the owner of the IRA with the intended individual(s) named as beneficiary(ies) to that trust, can provide a level of asset protection to the beneficiaries. Note that these trusts must be structured by an experienced attorney to comply with the IRS rules. Like other considerations in this article, it is important to work with an attorney who has experience in drafting trusts and the IRS rules that govern inherited IRAs.

It is important to consult with a professional advisor (or team of professionals) who can help you align your asset protection concerns and needs with the potential range of solutions that might exist to help you. When choosing your team of professionals, make sure that the legal, ERISA and tax experts you engage have the requisite expertise to advise you. When it comes to protecting the wealth that you have spent your life accumulating, the right team can make all the difference.

For informational purposes only. TD Bank, N.A. and TD Private Client Wealth LLC do not provide legal , tax or accounting advise to clients. State law and ERISA and IRS rules and regulations are subject to change without notice and the information provided may no longer be accurate. TD Bank and TDPCW are not responsible for any legal or regulatory changes that may impact the accuracy of this article.