Protecting Personal Assets

Is a corporation a good strategy for shielding personal assets from potential lawsuits? This is a question which has produced needless confusion and misleading advice. There are many heavily promoted schemes—generally involving Nevada corporations—which claim to provide a myriad of asset protection benefits.

Our view is that the corporation is generally a poor choice as a vehicle to protect assets. It is clumsy, inefficient, and usually better methods will be available.

The source of the problem is that a judgment creditor can seize any shares of stock which you own. If you transfer assets to a corporation in exchange for stock, the creditor simply takes the stock certificates and becomes the owner of those shares. If he obtains more than 50 percent of the shares, the creditor is then in control of the company—and your assets. We will see that this result differs from the Family Limited Partnership or LLC arrangement where the creditor cannot get the right to vote or manage the entity and, therefore, cannot reach the assets held by the company. Since the shares of stock of a corporation are reachable by judgment creditors, a corporation will not provide a significant degree of asset protection, in the event of a successful lawsuit against you.

Some degree of asset protection can be accomplished if you move the shares into a protected position. For example, corporate shares can sometimes be transferred to an entity that provides necessary legal protection for assets such as a Family Limited Partnership (FLP), LLC, or a trust. But there are lots of rules and tax traps for the unwary. For instance, shares in an S Corporation cannot be held by an FLP or LLC. Also, only certain types of trusts are permitted shareholders. Hazardous and unintended tax consequences occur frequently with corporations, and so all transactions should be carefully planned and monitored.