My good friend Sean Moore is a Certified Financial Planner and a person I trust implicitly. We’ve recently been having discussions around the intersection of asset protection planning and college financial aid. In the course of these discussions I’ve learned something interesting: Planning to pay for college goes WAY BEYOND filling out standardized forms and hoping you qualify. There are many college financial aid loopholes known only to people like Sean who make it their mission to help families minimize the impact of increased educational expenses.

When you think about the rising cost of education relative to core inflation, it becomes clear that expert guidance in the realm of college financial aid is an absolute necessity. If you have kids in high school, I advise you to contact Sean over at https://www.Smart4College.com. The sooner the better.

Enter Sean Moore . . . .

Most parents and grandparents have heard of a 529 college savings plans. Many have used or are using a 529 plan to save for upcoming college expenses. However, few families truly understand the impact that a properly structured college funding plan can have on their asset protection strategy as well as estate planning strategies.

What is a 529 plan?

Hang on. I have to give you the boring explanation of a 529 before I can get to the good stuff. 529 is a reference to the section within the Internal Revenue Code that set forth the rules and regulations of a qualified tuition program (QTP) beginning in 1996. The code states that a QTP must be established by a state or educational institution and may allow a person to purchase tuition credits for a beneficiary or make contributions to an account for the purposes of meeting the qualified expenses of the designated beneficiary.

There are 2 types 529 plans:

1. A pre-paid tuition plan offered by a state or educational institution
2. A college savings plan operated by a state.

While nearly every state offers some type of 529 plan (many states offer more than one plan), less than a dozen offer a pre-paid tuition plan.

There may be up to three parties involved in creating a 529 plan: The donor, the owner and the beneficiary. While any person may fill one or more roles, most often there are at least two separate parties involved (donor/owner & beneficiary).

Tax Benefits

When used properly, a 529 provides for tax free growth and withdrawals. The investments inside a 529 grow tax free and as long as distributions are made for qualified educational expenses, they are not subject to taxes. Non-qualified withdrawals will subject the earnings in the account to incomes taxes plus an additional 10% penalty.

Money is invested into a 529 plan on an “after-tax” basis which means that there are no federal tax savings on contributions, however, there are often tax breaks on state income taxes if you invest in your home state’s 529.

Asset Protection Benefits

In the case of bankruptcy, assets within a 529 are protected under federal law. If the beneficiary is the child or grandchild (including step children and grandchildren) of the debtor, all assets contributed more than 2 years prior to filing are protected. Assets contributed more than one year but less than two years prior to filing are protected up to $5,000 per beneficiary.

Additionally, state specific creditor protections are in place in at least 27 states with varying degrees of coverage, including claims outside of bankruptcy. The amount of asset protection afforded by a 529 is largely dependent on the plan participant’s state of domicile.

States that protect 529’s from creditors of donor, owner and beneficiary:

Colorado, Florida, Oklahoma, South Dakota, Virginia

States that protect 529’s from creditors of owner and beneficiary:

Alaska, Arkansas, Kansas, Kentucky, Maine, North Dakota, Pennsylvania, West Virginia

States that protect 529’s from creditors of beneficiary:

Louisiana, New Jersey, Wisconsin,

If your state is not listed above, don’t worry just yet. States like Oklahoma and Rhode Island have broad protections in place for 529 plans. While they do not specifically name donor, owner and beneficiary in the statute, the language claims a general exemption which is presumed would protect all three.

Meanwhile, New York statute protects 529 assets if owned by a minor but limits parent and grandparent protection to $10,000.

While one state may offer more asset protection than another to 529 plan participants, how that protection affects participants from an outside state is still uncertain. The question of one state honoring creditor protections of a 529 in another state has yet to be contested in court.  Only three have statutes explicitly protecting 529 assets in other states: Florida, Texas and Tennessee.

Estate Planning Benefits

529 plans have an estate planning benefit unmatched by other investment plans or entity structures. Contributions to a 529 plan are considered a completed gift when the contribution is made and as such are removed from the estate of the donor immediately. While making a completed gift is not a particularly novel concept, the donor may also be the owner of the account retaining full control of the funds held within.

As owner, the donor may move the funds from one plan to another or make investment changes within the account (subject to plan restrictions), change the beneficiary and even withdraw the funds effectively reversing the gift! Don’t try that with an irrevocable trust or UTMA!

Contributing to a 529 Plan

Contributions to a 529 are limited to what is deemed necessary to provide for the qualified higher education expenses of the beneficiary. Most state plans today have a maximum contribution limit of around $350,000.

As mentioned above, contributions to a 529 are considered gifts and are subject to federal gift tax regulations. Like any other gift, up to $14,000 may be contributed this year under the annual gift tax exclusion. The exclusion is double for married couples filing a joint return ($28,000 in 2014).

Another benefit a 529 plan is the ability to “front-load” 5 years worth of gifts. A donor may contribute up to $70,000 ($140,000 joint) and elect to apply the contribution equally toward the next 5 years’ annual exclusions. Any additional gifts made to the beneficiary within the 5 year period would require the donor file IRS Form 709 and may be subject to gift taxes.

For parents and especially grandparents, utilizing a 529 plan (or plans) can go be a helpful tool in reducing the size of their estate, sometimes significantly.

As with any investment, asset planning or estate planning strategy, never rely solely on advice found on the internet. Always consult with a qualified attorney and financial planner to discuss your individual situation. Thankfully, if you are reading this, you know just where to look!

The recent 4th District Court of Appeals decision in the Sargeant v. Al-Saleh case could have an enormous impact on asset protection practices in the State of Florida. The upshot of the case is pretty straightforward. The court simply refused to exert its contempt of court powers to compel the defendant to turnover stock certificates that were located outside the state of Florida.

What does that mean? For one thing it means that if you are sued in Florida and your stock certificates are not in Florida, those stock certificates are probably safe along with all the assets in any corresponding companies. Wayne Patton is quoted in today’s New York Times article, which highlights the Sargeant v. Al-Saleh decision. It’s worth reading, as the factual details of the case are fascinating and read like a Hollywood blockbuster.

You can read the entire legal opinion right here on https://mwpatton.com:

HARRY SARGEANT, III, MUSTAFA ABU-NABA’A, and INTERNATIONAL OIL TRADING COMPANY, LLC, a Florida corporation, Appellants,
v.
MOHAMMAD ANWAR FARID AL-SALEH, Appellee.

District Court of Appeal of Florida, Fourth District.March 5, 2014.DAMOORGIAN, C.J.

Harry Sargeant, III, Mustafa Abu-Naba’a, and International Oil Trading Company, LLC (“the debtors”) appeal the trial court’s non-final order granting Mohammad Anwar FaridAl-Saleh’s (“the creditor”) motion to compel the debtors to turn over stock certificates evincing their ownership interest in several foreign entities. We reverse the trial court’s ruling because the court lacked jurisdiction to compel the turnover of property located outside the State of Florida.

This case arises from the creditor’s suit against the debtors for breach of an agreement to ship oil across Jordan for use by the United States military in Iraq. Following a jury verdict of $28.8 million, the trial court entered judgment against the debtors and we affirmed. Sargeant v. Al-Saleh, 120 So. 3d 86, 87-88 (Fla. 4th DCA 2013).

The creditor filed a motion for proceedings supplementary to execution pursuant to section 56.29, Florida Statutes (2012). The motion sought to compel the debtors to “turn over all stock certificates and similar documents memorializing their ownership interest in any corporation.” The debtors opposed the motion, arguing that the stock certificates concerned assets located abroad—in the Bahamas, the Netherlands, Jordan, the Isle of Man, and the Dominican Republic—and therefore, the trial court lacked jurisdiction to compel the turnover.^[1] Without conducting an evidentiary hearing, the trial court entered an order compelling the debtors to turn over the stock certificates to their counsel. This appeal follows.

On appeal, the debtors maintain that the trial court lacked jurisdiction to compel the turnover of the stock certificates. They argue that Chapter 56, Florida Statutes, does not apply extraterritorially and that in order to execute the judgment against their foreign assets, the creditor must proceed under the laws of the foreign jurisdictions where the stock certificates are held. The creditor counters that the trial court had the authority to compel the turnover of the stock certificates by virtue of its in personam jurisdiction over the debtors. We disagree and reverse.

While we recognize that the trial court has discretion in supplementary proceedings brought pursuant to section 56.29, Florida Statutes, see Donan v. Dolce Vita Sa, Inc.,992 So. 2d 859, 861 (Fla. 4th DCA 2008), this case presents issues of law, which we review de novo, see Sanchez v. Renda Broad. Corp., 127 So. 3d 627, 628 (Fla. 5th DCA 2013).

Section 56.29(5) provides that “[t]he judge may order any property of the judgment debtor, not exempt from execution, in the hands of any person or due to the judgment debtor to be applied toward the satisfaction of the judgment debt.” § 56.29(5), Fla. Stat. (2012). Section 56.29(9) further provides that “[t]he court may enter any orders required to carry out the purpose of this section to subject property or property rights of any defendant to execution.” § 56.29(9), Fla. Stat. However, Florida courts do not have in rem or quasi in rem jurisdiction over foreign property. See Paciocco v. Young, Stern & Tannenbaum, P.A., 481 So. 2d 39, 39 (Fla. 3d DCA 1985) (“A Florida trial court has no in rem jurisdiction over notes secured by mortgages on real property located in a foreign state. . . .”); see also Rodriguez v. Smith, 673 So. 2d 559, 560 (Fla. 3d DCA 1996) (order requiring Miami police officer to retrieve petitioner’s personal property from the City of Philadelphia Police Department was not enforceable because the City of Philadelphia Police Department is outside the trial court’s jurisdiction).

The creditor’s argument that the trial court had jurisdiction to order the debtors to turn over the stock certificates is primarily based on two cases, both of which we find distinguishable. First, the creditor cites to General Electric Capital Corp. v. Advance Petroleum, Inc., 660 So. 2d 1139 (Fla. 3d DCA 1995). There, the Third District noted that:

[i]t has long been established in this and other jurisdictions that a court which has obtained in personam jurisdiction over a defendant may order that defendant to act on property that is outside of the court’s jurisdiction, provided that the court does not directly affect the title to the property while it remains in the foreign jurisdiction.

Id. at 1142. We find that this case is distinguishable from General Electric Capital Corp.because the creditor in General Electric Capital Corp. had a perfected lien on the property that the trial court ordered the debtor to return to the State of Florida. See id.at 1141-43.

Additionally, we are not persuaded by the creditor’s reliance on Koehler v. Bank of Bermuda Ltd., 911 N.E.2d 825 (N.Y. 2009). In Koehler, the Court of Appeals of New York considered “whether a court sitting in New York may order a bank over which it has personal jurisdiction to deliver stock certificates owned by a judgment debtor . . . to a judgment creditor, pursuant to CPLR article 52, when those stock certificates are located outside New York.”^[2] Id. at 827. The court answered this question in the affirmative, noting that “CPLR article 52 contains no express territorial limitation barring the entry of a turnover order that requires a garnishee to transfer money or property into New York from another state or country.” Id. at 829, 831. We find Koehlerdistinguishable because the trial court in Koehler had personal jurisdiction over the bank holding the foreign assets. Furthermore, unlike Koehler, the order in this case is governed by section 56.29, Florida Statutes. Though we recognize that section 56.29 does not contain any express territorial limitation on the court’s ability to order a judgment debtor to transfer money or property into the State of Florida, we find that the Koehler decision turned on a broad reading of the applicable New York statute and we decline to follow it here.

From a policy standpoint, we agree with the Koehler dissent. We are not aware of any Florida statute or case that expressly permits the action taken by the court in Koehleror by the trial court in this case. Furthermore, we are concerned about the practical implications of permitting Florida trial courts to order judgment debtors to turn over assets located outside the state. First, there may be competing claims to the foreign assets and we believe “that claims against a single asset should be decided in a single forum—and . . . that that forum should be, as it traditionally has been, a court of the jurisdiction in which the asset is located.” Koehler, 911 N.E.2d at 831 (Smith, J., dissenting). Second, we emphasize that allowing trial courts to compel judgment debtors to bring out-of-state assets into Florida would effectively eviscerate the domestication of foreign judgment statutes. See §§ 55.501-09, Fla. Stat. (2013) (detailing the procedure for recording foreign judgments so that they will be extended full faith and credit by the Florida courts); see also New York State Comm’r of Taxation & Fin. v. Hayward, 902 So. 2d 309, 310 (Fla. 4th DCA 2005) (citing Michael v. Valley Trucking Co., 832 So. 2d 213, 215 (Fla. 4th DCA 2002)) (“a properly recorded foreign judgment has the same effect as a judgment of a court of the State of Florida”).

In light of these policy considerations and the absence of controlling case law, we find that the trial court did not have the authority to order the debtors to turn the foreign stock certificates over to their counsel.

Reversed.

GROSS and TAYLOR, JJ., concur.

Not final until disposition of timely filed motion for rehearing.

[1] The record does not refute the debtors’ claim that the stock certificates are located outside of this jurisdiction.

[2] “Article 52 authorizes a judgment creditor to file a motion against a judgment debtor to compel turnover of assets or, when the property sought is not in the possession of the judgment debtor himself, to commence a special proceeding against a garnishee who holds the assets.” Koehler, 911 N.E.2d at 828.

Opinion also available on Google Scholar.

Asset protection planning is risk management. Plain and simple. It’s my job to handle your lawsuit risk, but I thought you might like to know about other types of risks so you can think about how to hedge. As an aside, I do not believe your bank is about to fail or that the market is going to collapse. I’m not a doomsday thinker, and it’s really my hope and desire that we figure out how to make this country prosperous. Nonetheless, it’s important that you challenge yourself to think . . . .

Institutional Risk

In order to manage risk, you first have to identify risk. One risk that people often overlook is the Institutional Risk. Institutional Risk is the risk of that the institution holding your money goes under. Don’t think that can happen? Where is Lehman Brothers today? How about MF Global?

Most people aren’t even aware that this type of risk exists, even after the fall of Lehman and MF Global. Part of that is a false sense of security in FDIC insurance.  FDIC covers accounts up to $250,000, but you are aware that the FDIC can delay paying you for up to 99 years. Like so many other perceived safety nets, the FDIC provides the illusion of safety.  Well, the illusion of safety and a nice looking sticker on your bank’s door.

Two Levels of Market Risk

Investing in liquid markets (e.g. stocks and bonds) involves risks. You can pick the fasting growing, lowest P/E, and highest value company out there, but all performance is at least somewhat tied to the overall market. No matter how good a company’s might be, there is very little that anyone can do about the macro-economy. Therefore, all investments are subject to two levels of market risk: The macro level (overall domestic and international economic conditions), and the micro level, or a company’s ability to compete profitably in a niche that attracts long-term investors.

If you’re invested in great companies, you can often take advantage of macro level downturns by buying of that great company. It’s like Warren Buffett says, “Be fearful when everyone else is greedy, and be greedy when everyone else is fearful.”

Managing Your Own Investments

Many of my clients manage their own portfolios.  “Home gamers” are often disadvantaged, because they directly compete with Wall Street professionals who are trained to suck every marginal penny out of the market.  Remember, the stock and bond markets are a zero-sum-game.  For every winning trade, there is also a losing trade on the other side. Ask Gordon Gecko.

It’s always surprising to me to find out how many seemingly sophisticated professionals are “long only” investor. What’s even more interesting is how people don’t even know that going short (or selling assets that you don’t already own in anticipation of falling stock prices) is even an option.  Knowledge like this (and having nothing else to do except understand market conditions) is one advantage that professional money managers have over the typical individual investor. The knowledge gap presents a huge risk.

Conclusion

Again, I do not believe that the market is crashing or that you should be worried about your bank failing. I just want to let you know that there is risk out there that you maybe haven’t considered. It’s relatively easy risk to handle. In the case of institutional risk, just don’t put all your eggs in one basket. In the case of macro market risk, psychologically train yourself to take advantage of it, rather than fall victim to it. On unknown investment risk, make an effort to educate yourself. It’s really that simple.

People ask why I use the Cook Islands for offshore asset protection. Here’s the answer: Unassailable Strength. The Cook Islands have the best and most battle-tested asset protection law in existence. The Cooks are also completely independent of the U.S. government. The country does not accept economic aid from the U.S. in any form.

Combine all that with the fact that asset protection trusts comprise about 10% of the economy of the Cook Islands annually (second only to tourism), and it become exceedingly clear that the government of the Cooks has a vested interest in protecting your money.

Jennifer A. Davis, Chief Executive of the Cook Islands Financial Services Development Authority says, “Asset protection is to provide a layer of insurance for something that cannot be insured – the unforeseeable.”

According to documents leaked to the media last year, U.S. citizens currently have about $1 trillion worth of assets parked in offshore trusts. Those assets are safe. Even in cases where trust creators have acted in severely egregious ways, creditors have come up completely empty when challenging Cook Islands trusts – the U.S. government included, as the Cook Islands have denied petitions filed by the Federal Trade Commission and Fannie Mae.

Just wanted to quickly highlight a recent asset protection article in the Economist. In talking about the value of asset protection, the article says the following:

The best protection for assets of all kinds is anonymity. They should be kept in offshore companies and trusts, in multiple jurisdictions with unclear ownership and minimal reporting requirements. Unfortunately, politicians are making these arrangements increasingly difficult to maintain. The G8 Summit in June is likely to see a new push to limit shell companies, and force existing ones to reveal their beneficial ownership. Mirkwood, with the help of its public-relations subsidiary, Schmoez and DeSeeve, is taking every opportunity to remind decision-makers of the importance of privacy to the high-net-worth individuals who support so many of them. Later this year we will hold a fund-raising dinner for a politician from Delaware, home to 917,000 people and 945,000 obviously legitimate but gloriously impenetrable companies.

Secrecy is your friend. Sadly, Luxembourg and Switzerland, once paragons of discretion, have buckled under pressure from the United States and European Union, but it is still possible to conduct transactions away from prying eyes. We continue to offer advice to clients, with an emphasis on emerging-economy jurisdictions such as Dubai, Shanghai and Mumbai, and to use helpful judicial systems to ward off intrusive journalists. Britain has some vicious and unscrupulous lawyers who can spot a libel in any sentence (even this one).

You can read the rest of the article here.

In terms of new business entity formations, the Limited Liability Companies (“LLCs”) are the king. The former ruler of the land – the corporation – has been dethroned after a viscous coup. Very few corporations are now being formed for asset protection reasons. In fact, unless one hopes to eventually take a company public or has some other unique requirement (e.g. employee benefit plans), there is very little reason to use the corporate form of ownership.

Charging Order Protected Entity

The Limited Liability Company has become popular because it offers decentralized (read “relaxed”) management and bookkeeping. LLC statutes have dispensed with the need for a Board of Directors, not to mention the need for a Board resolution every time somebody wants to flip a light switch. Limited liability companies also offer relaxed bookkeeping requirements, and they are taxed as partnerships by default (though an LLC can be disregarded if single-member or elect to be treated as a corporation or S-Corporation).

Probably the biggest driver behind the formation of many LLCs, as with Limited Partnerships (“LPs”), is the existence of statutory “charging order protection.” Simply, this means that if a member of an LLC becomes a debtor, the creditors do not get direct assets to LLC’s assets or even ownership of the debtor’s LLC membership interest. Creditors are prohibited by law (in some states) from levying on the interests of an LLC. This is exactly the opposite of what happens in the context of corporations, where creditors can simply seize the ownership interests.

Liens Instead of Seizures

Rather than take control of a debtor’s membership interest in an LLC, creditors are limited to getting a lien against the debtor/member’s LLC interest. These liens lasts until their underlying judgments are satisfied. This means, more specifically, that a creditor gets only a lien against whatever distributions of income that the LLC makes to the debtor/member, if any distributions are made at all.

In my mind, this makes LLCs a lot like country clubs, where membership can be exclusive and unwanted people can be barred from membership.

Charging Order Misconceptions

The charging order is surrounded by misconceptions. The charging order itself is not a lien. Rather, the lien is put in place by the charging order. Think of the charging order as gun. The lien is a bullet. The charging order is the mechanism by which the lien is placed on the debtor’s membership interest. The charging order itself is not the lien.

Under most LLC laws, the charging order is the “exclusive remedy” that a creditor can use to pursue a debtor’s LLC membership interest. The term “remedy” is a term of art in this context. It doesn’t mean an “outcome,” which is the reason that so many planners misunderstand it. The charging order is the “remedy” that a creditor must use in this situation. It means that other “remedies” like levies, garnishments, assignment orders, etc. simply aren’t available.

If a creditor has an alternative avenue to attack an LLC (e.g. alter ego theory), if it is not defined as a “remedy” then it is not blocked by charging order exclusivity. There have been instances where creditors have been able to circumvent the charging order procedure by attacking the LLC itself as opposed to attacking the debtor.

The purpose of a charging order is not to protect debtors. Instead, charging order exclusivity exists so that the other, non-debtor members of the LLC aren’t forced into involuntary business relationships with another member’s creditor(s) or ex-spouse. Again, think about it like a country club with exclusive membership rights. This rationale for the existence of charging order protection is important. Based on that rationale, some courts have effectively held that if all member of an LLC are debtors of the same creditor, then the charging order protection should not exist. This often occurs in the case of single-member LLCs (i.e. where there is only one member who is also a debtor). It also occurs when all of the members of an LLC are co-guarantors of the same line of credit, as an example.

Remember, a charging order gives creditors the right to lien a debtor’s membership interest. That means the creditor can intercept distributions. The creditor is not a “member”and has no right to become a member, and is therefore not liable for the taxes of the LLC that flow through to members. One of the biggest lies told by asset protection marketers is that “the creditors get the tax bill even though they can’t touch the assets.” To the contrary, if distributions are made to the debtor pursuant to his or her economic rights, then the creditor gets to intercept the cash and NOT the tax bill, which still belongs to the debtor! Wowza!

Some asset protection planners (liars) tell their clients something like, “You can always access cash in the LLC through loans, salary, etc.” Sounds great, right? Only in theory and by asset protection attorneys who have never been in court, in front of a judge, and have ZERO experience with actual charging orders. In practice, court issued charging orders are usually loaded with all sorts of prohibitions that specifically prevent the making of loans or payment of salary or fees to the debtor. Anything and everything that can be considered a distribution is subject to being intercepted.

What often happens is an Old West style standoff between creditors and debtors. The creditor can’t access the assets while they’re inside the LLC, and the debtor can’t distribute the assets from the entity. The creditor can almost always win if they are patient, especially if the creditor doesn’t have an urgent need for the cash (e.g. if the creditor is a bank or other institutional investor). Nonetheless, almost all of these types of cases settle, but debtor usually gets the short end of the stick at the negotiating table.

Charging orders are too nuanced to discuss every detail of them here, but suffice it to say that charging orders present complicated issues of law. They are even more complicated when the law is applied to particular fact patterns. The moral of the story is quite simple. LLCs and FLPs aren’t enough to protect your assets completely.