Was this transaction done to save taxes or did it have another economic purpose? If there was such a purpose, the transaction stands; if it was only tax-motivated, it fails.
Too many physicians over the last decade have sought cookie-cutter asset protection plans for peace of mind so, in the event they are involved in a malpractice case, they won't lose everything.
While we admire these doctors' commitments to proactively managing their risk, we point out that all "asset protection plans" are not created equal. In fact, many will not even work.
Why is this? Essentially, it is because of a basic tenet of asset protection: for any asset protection plan to stand up if challenged, it must have economic substance. In other words, "the best asset protection plan is typically not an asset protection plan."
While few physicians realize this crucial fact of asset protection planning, the leading attorneys in the field know it quite well.
In fact, we are not alone. Tax attorneys and CPAs know this adage is also true when it comes to tax planning.
Simply put, when determining whether a particular transaction with significant tax benefits was an illegitimate tax shelter, the IRS or tax court typically uses a simple test - "Would a taxpayer have done this deal if not for the tax benefit?"
In other words, was this transaction done to save taxes or did it have another economic purpose? If there was such a purpose, the transaction stands; if it was only tax-motivated, it fails.
As agreed by nearly every asset protection attorney in the field, this same test applies when evaluating whether a creditor protection tactic will be upheld if ever challenged.
Here, the question is, "Did this transaction have an economic purpose, or was it simply done for asset protection purposes?"
Asset protection as a sliding scale
We are part of a collective of attorneys, CPAs and other advisers called the "Wealth Protection Alliance (WPA)."
The WPA uses a sliding scale approach to evaluate asset protection techniques - with the lowest (-5) being a situation of an asset that is completely vulnerable, and the highest (+5) being a situation with an asset that cannot be taken by a creditor even in bankruptcy. This is important to understand, because every +5 asset protection technique, whether in a personal or practice implementation, has significant economic benefits to the client, irrespective of asset protection.
Asset protection, economic substance
Which +5 asset protection tools can be used in the practice? Let's examine them briefly:
Certainly, these are real economic concerns for a real economic transaction. Too often, unfortunately, we have seen physicians concentrate solely on the asset protection, disregarding the economic deal until too late - when they have lost significant wealth on this leverage technique. Many of them would have done better with the AR segregation tactic above.