Physicians – the core of ABFS’ clientele for 30 years – face many of the same challenges as our other clients, especially those who are business owners. But physicians also face unique challenges. Nowadays, even after a decade of education, most physicians work long hours for increasingly lower pay. Their dedication to the well-being of patients unfortunately often comes at the expense of their own financial health. As they are required to see more patients in less time (and for less money), many physicians have precious little time and energy left for their spouse/family, let alone researching financial strategies. This series of articles is designed to provide physicians with concise, valuable tips for tax savings, asset protection, and more. Of course, some of it is applicable to other people as well (e.g., items 2 and 3 below), but it is of special importance to physicians and their families.
1. Home Equity – Laws governing asset protection and civil suits are largely state specific, varying from state to state. Many states have “homestead” laws that protect the equity in your primary residence, but limits vary widely—from only $5,000 in Alabama, to much higher amounts elsewhere (see link below). A few states (e.g., TX, KS, OK) limit protection by acreage as well. The dollar limit is $125,000 here in Washington state, but is higher in several other states—even unlimited amounts (within certain rules) in Texas and Florida (click here for homestead limits by state (http://www NULL.legalconsumer NULL.com/bankruptcy/laws/)). In fact, we helped one of our Texas client-physicians (who was in a high risk specialty and a particularly hostile jury environment) purposely take hundreds of thousands from investment accounts to pay off his home mortgage—specifically to increase the equity protected by Texas’ homestead laws. This made sense even though it meant giving up higher investment returns and forfeiting the mortgage-interest deduction. While many physicians prefer to keep their money invested in securities, assuming that their returns will be higher, your home equity—at least up to the limit allowed by your state—is a legitimate and simple use for some of that money.
2. Umbrella Liability Policies – Whatever else you do, make sure you have a large umbrella liability policy; it’s inexpensive, just a phone call away, and removes some of the risk of you being viewed as a “deep pocket.” We believe that, as a general rule, physicians should have at least $2-3 million of umbrella coverage. Remember, you’re not just a target for patient lawsuits. If you’re at fault in a car accident, or someone falls off your front porch, the fact that you’re a physician makes you far more likely to be sued for amounts far in excess of the few hundred thousand dollars of coverage in your regular car/homeowners policies. Umbrella coverage is relatively cheap, just a few hundred dollars a year per $1 million. It is most easily obtained through the same company with which you have homeowners and auto insurance, but you can even get it through Costco!
Note: Almost everyone (including adult children of physicians) should have at least $1 million of umbrella coverage. If they’re sued for reasons like those above, it could be the one thing that protects them from the nightmare of bankruptcy.
3. Qualified Retirement Plans – Perhaps the most simple-yet-powerful asset protection strategy is making sure you are putting every penny you legally can into “qualified” tax-deferred retirement plans (pensions, IRA, 401(k), etc.). This is one of the few income-tax “shelters” left, and has few drawbacks, as long as you leave the money until at least age 59½. Furthermore, most states protect 100% of the assets in such accounts from malpractice and personal injury claims. Thus, physicians should be taking maximum advantage of this opportunity—to the extent that personal cash flow needs allow (we’ll discuss budgeting in our next article). Contribution allowances for such plans can be quite high, often more than $100,000 per year for some plans (consult your tax attorney or CPA).
As you may recall from the first article in this series, every dollar you contribute to a tax-deductible plan immediately produces a great “return”—even before you invest it. In a 33% tax bracket, for example, the 67 cents of each dollar you would have kept (after paying 33 cents in taxes) if you hadn’t contributed it, effectively increases by roughly 50% the first day! That’s because the entire dollar—not just “your” 67 cents—begins earning and compounding, and can do so for decades. For example, if you can legally contribute $30,000 per year more than you do now—assuming that 33% tax bracket and 8% per year returns—you will save $9,900 in taxes each year. If you aren’t forced to withdraw those dollars for 25 years, the government’s share alone ($9,900) of that contribution would, by then, have earned an additional $70,000! That’s money you wouldn’t have had at all if you made the same investments outside the qualified plan. And that applies to each year’s contribution! If you start early, and make the maximum deductible contributions, you could end up with literally millions more in retirement than if you made the same investments outside a plan.
4. Business Structure –
If you are starting, or are joining, a small practice, make sure your attorney considers asset protection, not just taxes, in structuring the business. Arguably the worst structure, which should almost always be avoided for a medical practice (or other assets owned by a physician, for that matter) is a general partnership. All partners in a general partnership may be held personally liable for any actions of the other partners, and that’s the last thing you want. You probably also want to avoid owning any business assets within an operating business entity, since liability from operations can make those assets vulnerable, too.
5. Other Tools – Several other entities/vehicles, all somewhat more complex than the above, can be helpful in asset protection planning. A Family Limited Partnership (FLP) or Limited Liability Company (LLC), for instance, can provide assets with good protection from lawsuits, allow you to remain in control, and in some cases, also have income and estate tax benefits. I would still classify them in the “basic” category.
Unless/until you have substantially $4 million or more in assets and/or earn more than $500,000 a year, the above strategies/vehicles may be all you need to adequately protect your assets. Beyond that, you might end up considering more “exotic” (and typically more expensive) tools, such as the following. Just tread carefully.
- Non-Qualified Plans (no initial tax savings like Qualified plans, but still with some tax-deferral benefits—and appealing to some physicians because employees need not be covered)
- Debt Shield & Collateralization (for protecting home/real estate equity and medical practice Accounts Receivable)
- Captive Insurance Companies (sometimes offshore, often owned inside irrevocable trusts)
Conclusions - Ultimately, asset protection isn’t black and white. The key is to find an appropriate balance between protection, liquidity, tax benefits, and returns. Different assets have different levels of protection, and the above strategies have varying degrees of success at protecting assets. That said, exempt assets generally offer the best protection with the least cost (hence my emphasis on making the maximum contributions you can to qualified pension and profit sharing plans, IRAs, etc.!).
Seek good legal advice. Hopefully your attorney is well versed in asset protection (or has someone in his/her firm who is). Whatever strategies you do utilize, be sure that you understand the pros and cons. It’s important to trust and have confidence in your attorney and CPA (and ABFS advisor team), but it is always in your best interest to understand the basic benefits and consequences of all asset protection strategies you employ.
Asset protection is only one component of your long-term financial planning, but done right, it is an important building block for lasting after-tax wealth—both in your retirement, and as a legacy for future generations. Part of our purpose at ABFS—in conjunction with your attorney and CPA, as a team—is to help you accomplish that.
Bruce Yates, president and founder of ABFS, has worked primarily with physicians and their families since founding ABFS 30 years ago. Bruce spent 12 years on the faculty of the American Association of Senior Physicians (until the AASP was absorbed by the AMA), speaking at all of their conferences around the country regarding the financial changes faced by physicians and their spouses when retiring from medical practice.