Perhaps you’re familiar with the expression “The man who represents himself has a fool for a client.” While this is typically a phrase applied in a criminal law setting, it also holds true for real estate and business law.
This doesn't mean you are incapable of "DIY" asset protection. But it means that all of us have blind spots.
Online services like LegalZoom may make it look easy to DIY your asset protection plan and save a few bucks while you’re at it. However, the money you “save” now could end up costing you far more later if you end up in court.
Asset protection is a topic that many investors become interested in for all of the right reasons: they want to protect their hard-earned assets from lawsuits. Specifically, they don’t want the fruits of their labors to motivate a lawsuit or be seized upon judgment. However, to execute an asset protection plan that will truly defend your assets and stop lawsuits before they even start, you will want to get help from an attorney with experience in asset protection. Let’s look at three of the most common DIY asset protection planning mistakes to illustrate why.
You may do some research and learn that there are some common structures that serve as the foundation of effective asset protection plans. But it’s also easy to overlook some of the factors that help determine which structures are best for you. After all, you don’t know what you don’t know.
Let’s look at an example. Jim is an investor in California who has read about asset protection online. He has four properties in his portfolio that he would like to defend from lawsuits.
Jim is a smart guy who knows the importance of researching the changes he plans to make in his business structure. So he gathers information from multiple sources including BiggerPockets.com and educational articles from law firms like the one you’re reading now.
Jim quickly learns that LLC structures usually serve as the foundation of most asset protection strategies. He notices that other investors use LLCs for asset protection and feel confident about their decision. He hops online and uses a cheap service to create LLC articles of organization and create a single-member traditional LLC for his real estate holdings.
Seems like a good enough plan, right?
Wrong. In fact, there are three problems with Jim’s approach. First, Jim did not consider (or perhaps did not know) that a traditional LLC is generally not the best approach for Californian investors. LLC laws are defined at the state level, and the best states for LLC formation depend on where you live.
For Jim, the recommended structure would actually be the Delaware Statutory Trust. By establishing an LLC instead, Jim is paying an unnecessary $800 in California franchise tax annually. If he established his LLC in a different state, he may be on the hook for foreign entity registration fees, registered agent fees, and more.
The next problem with Jim’s plan is that he is pooling properties inside of a single traditional LLC. If Jim becomes the subject of a lawsuit because of one of his properties, all of them may be vulnerable to seizure if he loses in court. All the opposing attorney would have to do is prove that the LLC is simply an alter-ego of Jim, an act known as “piercing the corporate veil.” This would be easy for opposing counsel because of Jim’s third mistake: failure to preserve his anonymity. LLCs generally must have their membership recorded with the Secretary of State for the state they are formed in. Since he formed a single-member LLC with no additional structures, Jim’s name is listed on this public record. A competent attorney could make quick work of piercing the corporate veil because of this oversight. Now all of Jim’s properties are vulnerable--not just the one related to the lawsuit--and a judgment against him is easier to secure. If he had used a Delaware Statutory Trust established by an asset protection attorney instead, Jim would have preserved his anonymity, kept his assets separated from each other and him personally, and avoided the $800 state Franchise Tax.
As you can see, there’s a lot to consider when creating your asset protection structures.
Even if you do determine which structure is best for you, you must use it correctly. Let’s imagine you do some research and discover that a Texas series LLC is a great structure for real estate investors. This is true in most states. But you still need to know how to use it appropriately.
Using your entity correctly requires a degree of specialized knowledge. Some of the factors you must consider to effectively use a Texas series LLC include the following:
That is just one example. Trusts are no less complex. You must know which type of trust to use.
Do you know off the top of your head whether you need a revocable or irrevocable land trust? Or which of the many types of trusts are best for asset protection? If not, that’s a sign you will either need to spend hours educating yourself or get help from someone who knows this territory.
Investors can also make errors with drafting their trust documents that legal professionals would not. For instance, you never want to state that a trust is being created for asset protection purposes (more on that below). Similarly, the documents must be written correctly while also applying to your specific situation. This is a task that is almost impossible without a legal background.
Correctly identifying the parties to the trust is also vital for the trust to do its job. Finally, you must also know how to file trust documents privately to preserve your anonymity. There’s a lot to know about any of these tools. The above doesn’t even take into account the many more minor errors that could undermine the protections of your trust, nor the role it should play within your asset protection strategy.
If this seems overwhelming, just consider whether it would be the best expense of your time to study all of these items. For most investors, it isn’t. But these details are all things your attorney should be able to advise you on and assist with.
When creating articles of incorporation for LLCs or setting up trusts, you never want to state that you are doing so for asset protection purposes. Instead, you want to give an acceptable reason such as “real estate investing,” or another business purpose.
Remember: Once you’ve set these terms down in the relevant documents and signed on the dotted line, you’re bound to them.
Should you end up in court, testifying that you created a Trust or LLC for asset protection purposes can also land you in hot water. You must state a legitimate business reason for the creation and use of the structure or it will have no asset protection value. The good news is that this situation is completely avoidable. In fact, all of the above mistakes have the same basic remedy: get help from a qualified attorney instead. Good attorneys will set up your structures ahead of time and advise you on these matters. The best asset protection attorneys will be able to give you the peace of mind of keeping you out of court altogether. Not only will you not have to worry about all of these details, but you also will have someone to turn to if you are ever threatened with a lawsuit who can advise you on what to say--or in this case, what not to say.
There is no good reason to take the risk of creating your own asset protection plan without the help of a qualified asset protection attorney. Even if you’re fairly certain what you need for your asset protection plan, it is still best to get the opinion of a lawyer who is familiar with your specific situation.
The professionals at Royal Legal Solutions have years of combined experience setting up effective asset protection plans for clients all over the United States and Canada. Our attorneys are aware of the state laws that may affect your strategy, and also keep track of changes in the law that could influence how effective your plan would be in the face of a lawsuit threat.
We are also well versed in the best asset protection strategies for a wide variety of situations, as this is the central focus of our practice. As investors ourselves, we are sensitive to your concerns and the value of your time. Using a firm like Royal Legal Solutions allows us to take care of your asset protection strategy while you dedicate your time and effort to finding deals and running your business.
Scott Royal Smith is an asset protection attorney and long-time real estate investor. He's on a mission to help fellow investors free their time, protect their assets, and create lasting wealth.
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