Beware of Your CPA’s Advice on Asset Protection
CPAs are not the most reliable and accurate sources of advice.
When we take on a new physician client, we often find that they have received little advice or direction from their CPAs in the area of asset protection. As a CPA with over 20 years of experience and an attorney and lecturer to CPA groups nationwide, we are surprised by how little attention this area of financial planning is given. Ask yourself: has your CPA helped you shield your assets from unnecessary exposure? The answer is usually “no.”
Unfortunately, even when doctors get asset protection advice from their accountants the advice is often wrong. Common mistaken advice ranges from “You don’t need to worry about asset protection, you have insurance,” to “Why create a professional corporation for protection… it’s not worth the expense!” to “Just put the assets in your spouse’s name—it’ll protect you.”
Let’s take each of these common CPA myths and review them separately:
1. “Your Insurance Protects You”
We strongly advocate including property and casualty (P&C) insurance as part of your asset protection plan, but an insurance policy is 50 pages long for a reason. There are a variety of exclusions that most doctors never take the time to read, let alone understand. This is true for personal policies, like homeowner’s, car and even umbrella insurance; as well as business policies, the most important of which for physicians is medical malpractice.
Even if your policy does cover the risk in question, there are still risks of the claim going beyond coverage limits (malpractice judgments do periodically exceed traditional $1/3 million coverage), strict liability, and bankruptcy of the insurance company. In any of these cases, you could be left with the sole responsibility for the loss. Lastly, even if all of your losses are covered within coverage limits, you may see your future premiums skyrocket. For these reasons, it is unwise to rely solely on insurance for your protection, especially when many asset protection techniques will generally save you on taxes and help you build retirement wealth.
2. “You Don’t Need a Professional Corporation (PC)”
We have talked to over 100 physicians, including neurologists, over the years who have followed this advice from their accountant. The main justification seems to be the expense ($1,000 or so to create, a few hundred dollars per year) and the additional paperwork (tax return, minutes, etc). What is so troubling here is that physicians seem to follow this incorrect advice, while almost no other sophisticated businessperson would. In our experience, no other owner of a significant business ($100,000 or more in annual revenues, with employees, etc.) would allow that business to operate in their own name.
When you fail to use a PC or other similar entity (PA, PLLC) to run your practice, you expose all of your personal wealth to any claim from the practice. While CPAs are quick to point out that the PC will not protect your assets from malpractice anyway (and they are right), they ignore all liability risks created by employees that you might have nothing do with. For example, consider car accidents when employees are driving for the business (receptionist going to pick up lunch for the office) or a slip and fall in the office, or car accident in the parking lot, among many others. If implemented correctly, the PC would protect your personal wealth against all of these potential liabilities and more… but, without one, all of your personal wealth could be vulnerable.
For this kind of protection, the small cost and paperwork seems to us well worth it. In fact, most CPAs themselves have such an entity in place… and nearly all solo attorneys use one. Why is it not good enough then for small medical practices? We have no idea!
3. “Use a ‘Disregarded Entity’ for Tax Purposes”
Related to the mistaken advice that a physician should avoid using a PC is this more-common misguidance for solo physicians: to have a professional entity, but to choose to have the entity taxed as a “disregarded entity” by the IRS. Essentially, a sole-owned LLC can elect not to be treated as a separate entity but, instead, to be treated as a “disregarded entity” where the profits or losses simply flow to Schedule C of the tax return of the sole owner (physician). While CPAs recommend this as a cost saving measure–saving the whopping cost of a simple tax return, perhaps $1,000 per year. By following this advice and using this form, the physician now endures the same risk as having no entity at all, that a lawsuit against the practice could “pierce the corporate veil” and attack all of the doctor’s personal assets, even if he was totally uninvolved in the activity that created liability.
While subjecting all of the physician’s personal assets to these types of risks in order to save $1,000 per year is bad enough, this advice is also detrimental from a pure tax perspective. That’s because by choosing a “disregarded” status for a sole owned LLC, the doctor may also pay more taxes on his/her income every year than if choosing a different tax status…typically the “S” tax status would be superior here.
Thus, this advice is wrong on two levels (asset protection and tax). Nevertheless, we have recently worked with two extremely successful solo physicians who had been following the CPA advice to have disregarded entities. These are physicians with over $1 million of annual income and both having significant net worth. If they can get this “advice” from their advisors, anyone can.
4. “Just Put Your Assets in Your Spouse’s Name”
The fourth common CPA mistaken advice about asset protection is that assets in your spouse’s name cannot be touched. We cannot tell you how many physicians have come to us with their assets in the name of the non-physician spouse and assumed those assets were protected from lawsuits against the physician. To see how this legal interpretation is wrong, ask yourself:
• Whose income was used to purchase the asset?
• Has the doctor used the asset at any time?
• Does the doctor have any control over the asset?
• Has the doctor benefited from “the spouse’s assets” in any way?
If the answer is “yes” to any of these questions, most courts find that at least half of the value will be exposed to the claims against the doctor. In community property states, it may be 100 percent of the value, as a community asset.
Another good litmus test is to ask the CPA what he/she thinks will happen in a divorce if you follow his/her advice and put all the assets in the spouse’s name. We bet that he/she will say that the court will treat these assets as joint because you are still treating them as joint (living in the house, spending the accounts, paying the taxes). Therefore, the court knows that you haven’t really “given the asset away” to the spouse. Most likely, this is exactly the way the court will treat the assets for creditor purposes as well.
In today’s litigious environment, asset protection should clearly be part of any neurologist’s financial plan. Too often doctors are tripped up by poor advice from accountants, which is unfortunate. On our end, we try to educate CPAs in CPE lectures around the country. On your end, you should watch out for poor advice and meet with an advisor well-versed in these matters to be part of your team and work with your CPA. n
David B. Mandell, JD, MBA, is an attorney and author of five national books for doctors, including For Doctors Only: A Guide to Working Less & Building More, as well a number of state books. He is a principal of the financial consulting firm OJM Group www.ojmgroup.com, where Carole C. Foos, CPA is a principal and lead tax consultant. They can be reached at 877-656-4362 or firstname.lastname@example.org.
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