The small number of physicians who have gotten any advice or direction on asset protection from their CPAs can be surprising. Ask yourself: has your CPA helped you shield your assets from unnecessary exposure? Likely not.
Unfortunately, even when doctors do get asset protection advice from their accountant that advice is often plain wrong. Common mis-advice ranges from “You don’t need to worry about asset protection; you have insurance,” to “Why create a professional corporation for protection? It’s not worth the expense,” to “Just put the assets in your spouse’s name — it’ll protect you.”
Let’s take each of these common CPA myths separately:
“Your insurance protects you”
While we strongly advocate property and casualty (P&C) insurance as part of your asset protection plan, an insurance policy is 50 pages long for a reason. There are a variety of exclusions that most doctors never take the time to read, let alone understand. This is true for personal policies — like homeowner's, car and even umbrella insurance — as well as business policies — the most important of which for physicians is medical malpractice.
Even if your policy does cover the risk in question, there are still risks of the claim going beyond coverage limits (malpractice judgments do periodically exceed traditional $1/3 million coverage), strict liability, and bankruptcy of the insurance company. In any of these cases, you could be left with the sole responsibility for the loss. Lastly, even if all of your losses are covered within coverage limits, you may see your future premiums skyrocket.
For these reasons, it is quite unwise to rely solely on insurance for your protection — especially when many asset protection techniques actually will save you taxes and help you build retirement wealth.
“You don’t need a professional corporation (PC)”
We have talked to probably 100 physicians who have followed this advice from their accountants. The main justification seems to be the expense ($1,000 or so to create, a few hundred dollars per year) and the additional paperwork (tax return, minutes, etc).
What is so troubling here is that physicians seem to follow this mis-advice, while almost no other sophisticated businessperson would. In our experience, no other owner of a significant business ($100,000 or more in annual revenues, with employees, etc.) would allow that business to operate in their own name.
When you fail to use a PC or other similar entity to run your practice, you expose all of your personal wealth to any claim from the practice. While CPAs are quick to point out that the PC will not protect your assets from malpractice anyway (and they are right), they ignore all liability risks created by employees that you might have nothing do with.
For example, consider car accidents employees might get in when driving for the business (receptionist going to pick up lunch for the office) or a slip and fall in the office, or car accident in the parking lot, among many others. If implemented correctly, the PC would protect your personal wealth against all of these potential liabilities and more. But without one all of your personal wealth would be vulnerable.
For this kind of protection, the small cost and paperwork seems to us well worth it. In fact, most CPAs themselves have such an entity in place… and nearly 100% of solo attorneys use one. Why is it not good enough then for small medical practices? We have no idea!
2. a. “Use a ‘Disregarded Entity’ for Tax Purposes”
Related to the mistaken advice that a physician should avoid using a PC is this more-common misguidance for solo physicians: to have a professional entity, but to choose to have the entity taxed as a “disregarded entity” by the IRS.
Essentially, a sole-owned corporation or LLC can elect not to be treated as a separate entity with its own employer identification number (EIN) but, instead, to be treated as a “disregarded entity” using the Social Security number of the sole owner (physician).
While CPAs recommend this as a cost saving measure — saving the whopping cost of a simple tax return, perhaps $1,000 per year — by using this form, the physician now endures the same risk as having no entity at all. A lawsuit against the practice could “pierce the corporate veil” and attack all of the doctor’s personal assets, even if he was totally uninvolved in the activity that created liability.
While subjecting all of the physician’s personal assets to these types of risks in order to save $1,000 per year is bad enough, this is advice is also detrimental from a pure tax perspective. This is because by choosing a “disregarded” status for a sole-owned LLC, the doctor may also pay more taxes on his/her income every year than simply choosing a different tax status. Typically the “S” tax status would be superior here.
Thus, this mis-advice is wrong on two levels — both asset protection and tax! Nevertheless, just in the last six months, we have worked with two extremely successful solo physicians who had been following the advice to have disregarded entities. These are physicians with over $1 million of annual income and significant net worths. If they can get this “advice” from their advisors, anyone can.
“Just put your assets in your spouse’s name”
The third common CPA mis-advice about asset protection is that assets in your spouse’s name cannot be touched. We cannot tell you how many physicians have come to us with their assets in the name of the non-physician spouse and assumed those assets were protected from lawsuits against the physician.
To see how this legal interpretation is wrong, ask yourself:
Was the doctor’s income used to purchase the asset?
Has the doctor used the asset at any time?
Does the doctor have any control over the asset?
Has the doctor benefited from “the spouse’s assets” in any way?
If the answer is “yes” to any of these, most courts find that at least half of the value will be exposed to the claims against the doctor. In community property states, it may be 100% of the value, as a community asset.
Another good litmus test is to ask the CPA what he thinks will happen in a divorce if you follow his/her advice and put all the assets in the spouse's name. We would bet that he/she will say that the court would treat these assets as joint because you are still treating them as joint (living in the house, spending the accounts, paying the taxes) — the court knows that you haven't really "given the asset away" to the spouse. Most likely, this is exactly the way the court would treat them for creditor purposes as well.
In today’s environment, asset protection should clearly be part of any physician’s financial plan. It is unfortunate that so many doctors are often tripped up by poor advice from accountants. On our end, we try to educate CPAs in CPE lectures around the country. On your end, you should watch out for such poor advice and meet with an advisor well-versed in these matters to be part of your team and work with your CPA.
David Mandell is an attorney and principal of the financial consulting firm OJM Group, where Carole C. Foos, CPA, works as a tax consultant. All readers are entitled to a free copy (pay just $10 shipping and handling) of the authors’ book For Doctors Only: A Guide to Working Less and Building More. Call (877) 656-4362.
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This article contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized legal or tax advice. There is no guarantee that the views and opinions expressed in this article will be appropriate for your particular circumstances. Tax law changes frequently, accordingly information presented herein is subject to change without notice. You should seek professional tax and legal advice before implementing any strategy discussed herein.