By Karen E. Klein Q: I buy professional liability insurance, but I'm concerned that the coverage might not be enough, leaving me personally exposed to large claims. I notice numerous entities promoting overseas asset protection, such as setting up trading and investing businesses as LLCs [limited liability companies]. Is there any benefit to doing this? What about potential pitfalls? -- A.R., Evanston, Ill.
A: In today's litigious society, asset protection is an increasingly popular subject, because it sometimes becomes clear that what we may have thought were adequate liability protections are not, in fact, sufficient. When it comes to overseas entities, however, you're getting into an area where you'll want to tread very carefully -- and for numerous reasons, experts say.
One is that, when an average American forms an offshore trust, it inherently raises suspicion about motivation and could provoke unpleasant inquiries from law-enforcement quarters and the Internal Revenue Service. Second, there are many scams being operated by unscupulous individuals who charge exorbitant fees to file paperwork in places like the Cayman Islands for "protection" that is not really valid or necessary. Third, if you're currently involved in litigation, and then you place your assets in an overseas trust, you could be charged with fraudulent conveyance.
ESTATE PLANNING. Be cautious -- especially about plans that sound too good to be true. Most experts say that the protection inherent in ordinary business structures, such as corporations and LLCs, does an adequate job of shielding personal assets from the liabilities of an active business. You should also establish and maintain an up-to-date estate plan that will help protect your personal assets.
In the case of protection from a tort claimant or for a personal injury claim, you might ask your attorney about forming additional business entities to protect your personal assets rather than holding them in your own name. For instance, assets held inside a partnership will be harder to reach than assets held solely by an individual.
Ask also about domestic trusts: "A number of states -- including Delaware, Alaska, and Nevada -- have legislation intended to provide domestic trusts that provide this kind of protection to individuals," says William M. Weintraub, a partner in the Los Angeles law firm of Jeffer, Mangels, Butler & Marmaro LLP.
THE TAXMAN IS WATCHING. Remember, however, that setting up a corporate entity will not protect you against all losses. For example, certain types of claims may be made against the principals of a corporation or LLC, says Robert Braun, who is also a corporate partner at Jeffer, Mangels, Butler & Marmaro.
There are also tax implications, good and bad, associated with all business structures, so get specific business and tax advice before you establish one. Additionally, there is a cost to doing business as an entity, including minimum annual tax payments, and accounting and tax reporting requirements. And in some states, such as California, the law allows the possibility of "piercing the corporate veil," which means that a creditor or plaintiff could ignore corporate structure for a variety of reasons, Braun says. "The reasons include failure to follow corporate formalities and inadequate capitalization," he says. "Therefore, it is very important to maintain corporate formalities (including those for LLCs) to get the benefits of the limitation on liability." Have a question about running your business? Ask our small-business experts. Send us an e-mail at email@example.com, or write to Smart Answers, BW Online, 46th Floor, 1221 Avenue of the Americas, New York, NY 10020. Please include your real name and phone number in case we need more information; only your initials and city will be printed. Because of the volume of mail, we won't be able to respond to all questions personally.