Many professionals, whether they be doctors, dentists, lawyers, etc. form business entities, such as corporations or limited liability companies (“LLC”) for tax purposes. However, in Arizona and Washington (and every state I’m aware of) professionals such as those listed above must have a specific form of business entity known as a Professional corporation or LLC. These specific types of business form are very limited in the liability protections that make them so useful for many other small businesses. However, there is no reason that professionals, should risk all their personal assets without at least attempting to create some sort of rainy day plan just because they’re limited to these types of business forms.
Adequate insurance is always the first line of defense, assuming it is in place, what next? All potential bankruptcy exclusions should be fully utilized. These exclusions vary from state to state and there are even federal guidelines, but the point is to look into them and ensure that these “safe” baskets have been fully utilized. This is not because of any intention of filing a bankruptcy, but the bankruptcy exemptions indicate what any creditor may obtain should they attempt to collect. Thus, they are a starting point. In Arizona for example, some of the main exemptions as of the date of this blog are your homestead exemption, equity in a vehicle and retirement, which is the biggest “safe” basket available if it is an IRS recognized retirement plan. Regardless of what the applicable exemptions are in your state, if they are an exempt asset, then generally the creditor cannot reach it.
The above are minimums, but more complex methods are available. Just because you are prohibited from running a business as a true corporation or LLC with limited liability, doesn’t mean those forms have no utility. In fact, they may be utilized to form a much more complex asset protection plan to limit the exposure of your hard earned wealth to potential claims. For example, putting personal assets such as a boat, home, vacation home or investment account in an LLC can be an effective way of limiting the possibility of claims against them and, in fact, in some cases may be a good way to insulate assets like a home from assets like a boat which may have a higher risk of liability. LLC’s are preferred to corporations in asset protection for a couple of reasons. The most important reason is that corporations have stock which are deemed transferrable, so a creditor may obtain them. Also, corporations have many more corporate formalities which must be followed in order for the corporation to remain in good standing, if it does not, the protections are lost. In contrast, a creditor’s sole remedy against an LLC is what is known as a charging order. What this does, is require the member whose interest is being charged to pay to the creditor any distribution which the member may obtain as a result of his membership. Most importantly however, they cannot force a distribution and cannot step into the LLC as a manager or member, which leaves the member still in control of his or her assets. In addition, in Arizona the formalities needed to create and maintain an LLC are limited. Thus, it is less likely that some failure to meet a corporate formality will render the corporate form useless.
There are many ways to utilize the above forms, as well as other strategies to minimize the exposure for a professional to a potential loss of personal assets. We recommend that all such strategies be formed upon careful analysis of the client’s needs along with the input of tax professionals as there can be tax ramifications as a result of some strategies. For more information, please contact our office.
 There are exceptions based upon when an exempt asset was obtained, and how much equity there is. Ex. You have a home in Arizona worth $400,000 and have $200,000 in equity. The creditor might be able to force the sale for the $50,000 in equity that doesn’t’ fall under the homestead exemption amount. If you have concerns about specific exemptions and how they may apply, consult an attorney.