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Prenups

By Adam Chodos Esq., CPA

Most families envision eventually transitioning family wealth to younger generations to empower them to achieve.  However, a child’s divorce potential is a serious threat to family wealth.  If a child or grandchild was divorced, how much of the assets we gave to them could be taken?  

We cherish our family. However, we understand that they may be seen for what they have, or may have, rather than who they are.  It is difficult for younger family members to fully grasp the concept of legacy and that their actions impact the family unit.  The greater the assets the more magnified this fact often becomes.  A divorce risks half, or more, of the assets that could belong to someone no longer part of the family.    

We cannot control who our children or grandchildren love and marry, but there are proactive steps available to protect the assets we plan on transferring (whether alive or after death).  The most common tool is the prenuptial agreement, and while useful, is not as effective as most believe.  

A prenuptial agreement is essentially a relationship exit agreement which specifies how assets will be divided upon divorce.  Simple in concept, but complicated in application.  Most mistakenly believe a prenuptial agreement to be a binding contract however it is merely expression of intent only upheld if approved by a family court judge.  Generally speaking, to be enforceable a prenuptial agreement must pass a five-part test: (a) each party had separate, competent counsel, (b) full disclosure of assets, (c) adequate time to consider, (d) agreement was fair at the time it was entered into, and (e) agreement was fair at the time it was being enforced.  The last two prongs are essentially subjective, which makes enforcement uncertain.  Even some of the best drafted agreements are subject to risk; Jack Welch’s divorce settlement is a vivid example.

It is often difficult to share with an adult child or grandchild financial concerns or views of the family legacy.  Surfacing a prenuptial agreement can be taken as an insult, causing relationship strains and resistance. Even when a prenuptial agreement can be a useful tool, it can become difficult to implement.

Insulating assets offers the most favorable results through the use of several techniques, usually in an interlocking fashion.  Legal entities and structures — such as limited liability entities, family limited partnerships, trusts, — can be used to take advantage of their anti-creditor characteristics and insulate.  One cannot lose assets that they do not own.  For example, a trust may own a residence and the child lives in the property with his spouse and children, but if there is divorce, a well designed trust precludes the creditor from reaching the home.  From a relationship perspective, entity and structure based programs only require parental involvement and coordinate with tax planning goals, and thus avoid intruding.  

Prenuptial agreements have value and a place in the asset protection program, but cannot be relied upon exclusively.  A well designed program should include a blend of strategies to provide protection along with flexibility to adjust to changing views and circumstances.  Most attorneys and advisors are not asset protection specialists and many plans have their shortcomings exposed only after a creditor attack.  Once a family understands its options, it is much simpler to choose insulation options in a comfortable, manageable fashion which not only preserves family legacy, but harmony.         

Adam Chodos, Esq., CPA

(c) 2022 Chodos & Associates, LLC

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Planning Process

Adam Chodos, Esq., CPA

Planning is a common phrase, but the definition varies. “Planning” is the proactive organization of affairs to achieve specific goals. For most successful families, goals are (1) to decrease taxation, (2) insulate family assets, (3) intelligent plan to manage assets on exit and/or death, (4) create a disposition program to empower multiple future generations, and (5) embed enough flexibility to adjust for changing circumstances.

Planning is a process.  More often than not, planners short circuit the process and simply ask families what they want, presuming they have enough background information to make that decision.  It is incumbent on professionals to provide guidance and the invaluable exploratory experience to make educated choices and design a plan that reflects values. 

Planning should be coordinated with members of the planning team so each facet meshes. Planning in piecemeal leads to bandaid approaches of the unintended and avoidable. For example, a common tool is an irrevocable life insurance trust, specifically designed to own life insurance and avoid estate taxes on the death benefit. However, many times the life insurance agent and attorney fail to coordinate and insurance is personally owned thus none of the trust benefits apply.

Planning needs to recognize limiting factors so a change in expected outcome does not derail a plan, but rather provides an opportunity to refine goals. For example, a family with a total net worth of $20 million now has 15 heirs, which limits the ability to provide one heir a $10 million distribution to fund a new business, but if flexible, a loan can be made for $1 million to prime company equity so the business can raise additional funds.

A planning team usually consists of the attorney, accountant, asset manager, and life insurance specialist. Sometimes a financial planner, banker, or internal CFO.  The full team is not needed for every task and involvement varies, but all should be aware of the planning steps taken so their activities work in harmony. 

Some fail to complete planning as they strive to achieve the “perfect” plan, which likely does not exist for anyone. Even if all techniques line up impeccably, the personalities and familial relationships create issues and instead we aim for the best outcome possible with enough flexibility to adjust as needed. 

Other than the amount of taxes saved, planning is difficult to quantify, making the value harder to understand. Considering the effort required to earn and maintain wealth, there is a significant value to ensuring the least tax erosion, assets stay within the family even if lawsuits or divorces develop, and eventually move down the to children and beyond in an intelligent manner.

Much of planning requires a family to contemplate the family unit working together but family cooperation and harmony are difficult to achieve for any family.  More complex but more complete

Adam Chodos, Esq., CPA

(c) 2022 Chodos & Associates, LLC

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Asset Protection for Physicians

Physicians devote the bulk of their adult lives in training, honing skills, and developing their practices yet often do not spend time to protect the many years of investment.  Medical issues are one of most visible liabilities in today’s legal system.  Even when there was no intent, liability is often based on net worth rather than wrongdoing; few jurors relate to a doctor.  Our legal system makes it easy for a plaintiff to bring a large lawsuit and thus it has become increasingly important to protect wealth.

The United States is saturated with litigation; we are host to 95% of the world’s lawsuits.  Expanding theories of liability and significant judgments have made lawsuits a business, and to be profitable, one sues people who have assets and an ability to pay.  While the lawsuits that get press tend to be class actions against big companies, the most common cases involve day to day events.  Some of the more common lawsuits today are malpractice, business breakups, acts of employees and agents, workplace claims, serving on a board, etc.  Physicians are a common target of litigation as they are perceived as high net worth and address the most precious of all assets; health. Though medicine is an art and a science, patients often have unrealistic expectations; discounting risks and often disappointed with anything other than a side effect free result. 

The Gilette case is a recent example (August 18, 2009, Orange County, NY). A teenage girl saw a podiatrist to treat a wart on her left heel. The doctor excised the wart with a scalpel. Unfortunately, a side effect of the treatment was risk to the Achilles tendon, which created pain and follow up surgeries to correct. The jury did not find the procedure was malpractice but rather the lack of informed consent created liability (the plaintiff alleged that the doctor did not advise her of more conservative treatment options) and awarded $3 million. 

The concern with protecting assets is not new. In the past many would use a corporation, buy large amounts of liability and malpractice insurance, or move assets into the name of a child or a non-working spouse. A corporation is intended to limit business claims to business assets, still corporations are routinely pierced and personal liability attached.   Malpractice and liability insurance are important, however, there are many claims that are not covered (divorce, most employment claims, business disputes) and it has liability limits. Using other family member’s as owners merely shifts the risk to another person, makes controlling children and dealing with a divorce very difficult, and can trigger gift tax. 

The way we own assets is directly linked to a creditor’s ability to reach it. Assets owned personally, jointly, corporately, in general partnership, etc. can be reached by a creditor. A successful lawsuit can put a lien on the property preventing the owner from selling or borrowing against the asset until the lawsuit is resolved, which can be years. Alternatively, a family can own assets in entities making them unattractive as a defendant.  We often structure businesses to segregate key assets (i.e. intellectual property, machinery/equipment, receivables) and insulate them from practice risk.

Today’s juries are not shy in handing down large awards, which can eliminate years’ worth of efforts in one day. For some families, this occurs at a point when the funds can not be re-earned or replaced. A clear-cut insulation strategy can go a long way in providing a physician comfort to move forward with a practice and other business ventures without open risk. 

Adam Chodos, Esq., CPA