Asset protection isn’t a magic bullet. Our goal is often to discourage the creditor—make it difficult and expensive to collect on a judgment against our client. There’s always the risk that a creditor will claim that the asset protection strategy is a fraudulent conveyance intended to hinder, deter or possibly defraud the creditor. Most asset protection planning is at risk of being challenged as a fraudulent conveyance—it’s the only way for a creditor to reach the assets we’re protecting.
I always tell my clients that there’s one hard and fast rule in asset protection—if you do nothing, there is a 100 percent chance that you’ll lose your assets. Whereas with a well-thought-out strategy designed to protect assets and discourage creditors from pursuing them, there’s a good chance that you’ll save at least some of the assets, if not all.
This is one of the first cases I handled when I launched my own law practice. It has stuck with me, and in many ways has shaped my career and my outlook on what I do for my clients. (All names have been changed to protect the innocent.)
Martin and Sheryl Silversteen came into my office on a Friday afternoon. They were in their late 60s, a nice couple who had worked hard their whole lives to build a comfortable nest egg. Watching them, I could see decades of love and life shared between them. But there was something else that seemed new and uncomfortable—fear. And it had something to do with their visit to me.
The Silversteens lived in Los Angeles. They owned their home, valued at $950,000 free and clear. They owned an apartment building worth $1.5 million; $500,000 in a bank account; $780,000 in a brokerage account; $250,000 in Martin’s individual retirement account; and an office building with negative equity located in Texas. They had owned two other apartment buildings but sold them and purchased the office building in Texas with the proceeds from the sale. They netted $6 million on the sale of their apartment buildings and bought the office building for $10 million with $4 million financed and personally guaranteed by Martin. A personal guarantee is a person’s legal promise to repay a loan. If the person is unable to repay the loan, he’s responsible, and his personal assets become collateral.
This is where the problem lays. Martin had made a personal guarantee despite Sheryl’s advice, and now, after holding on to an empty office building for a year, they decided to default on the loan. By signing the personal guarantee, Martin had put their home and all their life savings at risk. When they came to me, they looked defeated but were hoping for a miracle.
The Texas office building had dropped in value so much that the Silversteens would’ve been wiped out by the lender’s lawsuit on the personal guaranty. They would’ve been left with their Social Security checks and their love for each other. A scary proposition.
The Good News
Fortunately, the Silversteen’s case wasn’t hopeless for a couple of reasons:
- They came to me before they defaulted on the office building loan, not after. This means that if any asset protection transfers did occur, a creditor would have to challenge them under the actual intent test of the fraudulent conveyance statute, and not the constructive fraud test. It’s much more difficult to use the actual intent test, as it’s more subjective.
- Martin signed the personal guarantee, not Sheryl. This means that the creditor could come after Martin’s assets but not Sheryl’s assets. What about assets that belong to both of them? All assets that are community property are deemed 100 percent owned by each spouse and can be pursued by the creditor of either spouse. We often seek to terminate community property by having our clients enter into a transmutation agreement, making various assets the separate property of each spouse. The assets of Sheryl’s separate property would no longer belong to Martin.
We went over several planning scenarios with Martin and Sheryl and found that we had some workable asset protection strategies we could use with the ultimate goal of removing the debtor, Martin, from the title to his assets and do it in such a way that its validity would be difficult to challenge.
Hoping for the Best Isn’t Useful
As lawyers, we can’t make decisions for our clients. All we can do is provide sound legal advice. For reasons unknown, the Silversteens decided to “wait and hope for the best.” I see this all too often. Many of our clients have never before faced the prospect of losing all their assets. They have a difficult time accepting the reality of what’s happening.
As we all know, hoping for the best isn’t a useful strategy. About a year after our meeting, the accountant who referred the Silversteens to me told me that Martin had died of a heart attack and, unfortunately, the problems didn’t go away. The lender continued to pursue assets in the hands of the estate and Sheryl was still fighting to preserve some of her assets.
I’ve been a practicing attorney for over 20 years and have seen my fair share of complicated, crazy and sad cases but I still think of Sheryl and Martin. Maybe it’s because they could be anyone’s parents or grandparents, sometimes too proud to accept help or too afraid to act. And I continue to hold true to the saying—hope for the best and plan for the worst.