There’s no sugar-coating it: the United States is by far the world’s lawsuit leader. About 90% of the world’s lawsuits are filed in the good old Red, White, and Blue. And if you have a high enough net worth, own a business, or work in a high-risk profession such as medicine, you need to do some serious thinking about wealth preservation.
Most lawsuits relate to torts; an act or omission that injures someone else. If you have an at-fault accident while driving, that’s a tort. So is neglecting to shovel your sidewalk if water freezes on it, resulting in an accident. A physician who misdiagnoses a patient also commits a tort.
These are all examples of a negligent tort. An intentional tort results if you deliberately harm someone. Examples include physical assault, trespassing, or making written or oral statements about someone that are both harmful and untrue.
A report from 2021 estimates that lawsuits resulting from torts cost the US economy nearly $430 billion per year, along with the loss of more than four million jobs. That’s a lot of dough. And in response to these losses, a wealth preservation industry has arisen to help protect individuals and businesses from these legal predators. But it turns out that many of the most popular wealth preservation techniques the “experts” recommend are deeply flawed.
The problem is a 450-year-old legal concept inherited from England called “fraudulent transfer” (in some states, “fraudulent conveyance”). Obviously, the social, political, and technological environment of 16th century England is quite different from that of 21st century America. Yet, in many ways, today’s wealth preservation planning in America derives from the time of William Shakespeare.
Put yourself in the place of a lender in 16th-century England. Someone who wants to borrow money is standing in front of you. Is he creditworthy? You can check references, but you have no way of knowing if they’re forged or if the borrower paid someone to write them. Credit bureaus don’t exist, and it’s impossible to conduct a public records search to determine if he has a good reputation.
In that environment, it’s hardly surprising that the English Parliament enacted the strictest possible legal remedy to recover assets from debtors who transfer or hide their assets to avoid paying their creditors. Thus, in 1571, Parliament enacted the Fraudulent Conveyances Act, a law that came to be known as the Statute of Elizabeth.
In summary, this act makes “utterly void” any transfer of property made with the purpose or intent of hindering or defrauding creditors from enforcing a just and lawful debt. While the UK Parliament repealed the Fraudulent Conveyances Act in 1926, its principles still apply in jurisdictions like the United States that inherited common law.
A series of decisions in the English courts came to outline the “badges of fraud” that constitute a fraudulent conveyance, or fraudulent transfer:
- Making the transfer to an insider (someone close to you)
- Retaining use or control of the property (e.g., living in your home after putting it in a trust)
- Concealing the transfer
- Making a transfer of a substantial amount (or all) of your assets
- Removing or concealing assets
- Not receiving reasonable value in return for the transferred assets
- Becoming insolvent shortly after the transfer as a result of the transfer
The first reported English court proceeding interpreting the Statute of Elizabeth came in 1601: Twyne’s Case. The facts of the case could come out of today’s America. Mr. Pierce borrowed money from Mr. Twyne, and someone known only as “C.” Pierce secretly transferred his property to Twyne yet continued to possess and benefit from it. C brought a fraudulent conveyance case against Pierce and prevailed. The court authorized the sheriff to seize the property that Pierce had conveyed to Twyne to satisfy C’s share of the debt.
At least three badges of fraud are clear in this case:
- Concealing the transfer.
- Retaining use or control of the property.
- Making a transfer of substantial amount of the debtor’s assets.
Most states have incorporated the principles of the Statute of Elizabeth into some form of the Uniform Fraudulent Transfer Act, or UFTA. The federal bankruptcy code also addresses fraudulent transfer. So, when you engage in wealth preservation planning, you must be aware of both state fraudulent transfer rules and the Bankruptcy Code even if you have no intention of declaring bankruptcy.
One of the most misunderstood aspects of fraudulent transfer laws has to do with unknown future creditors. For instance, many wealth preservation pundits claim that if you transfer assets to an offshore trust when you have no known creditors, you have nothing to worry about.
Frankly, that’s not true. Section 4 of the UFTA, drawing on the Statute of Elizabeth, allows a future unknown creditor to make a claim against a past payment or transfer you made or received, even if you made or received that payment or transfer in good faith. In addition, a future unknown creditor doesn’t need to demonstrate that:
- You reasonably thought that it might have a claim against you or the person from whom you received a payment.
- You had actual intent to hinder or delay its claim, if it can demonstrate that you didn’t receive “reasonably equivalent value” in exchange for a transfer of assets.
It’s easier than you might think for a future unknown creditor to demonstrate your intent to defraud, or the intent of the person or company paying you. Perhaps the easiest “badges of fraud” to prove actual intent is that a transfer left you insolvent. That’s because solvency can change almost day-to-day. For instance, if the value of your assets falls below the value of your debts, you’re legally insolvent. In addition, assets that are pledged (e.g., a mortgage on your residence) or are not available to creditors (e.g., assets in some types of retirement plans) aren’t included in a solvency analysis.
The reason for seeking wealth preservation can also play a part. If you retain an attorney specializing in “asset protection,” and enough money is at stake, your plan could be compromised.
Now, to be clear, we are not saying you should not plan. In fact, it’s more important than ever.
But it’s also important to plan correctly. Our country is full of lawyers with the skills to separate people with wealth from their assets.
We therefore have two suggestions for anyone who believes they need a wealth preservation plan:
- Buy more liability insurance than you think you’ll ever need. If you’re sued and lose but have liability insurance that covers the risk for which you’ve been found liable, it will be much harder to demonstrate a fraudulent transfer.
- When you engage in any type of “wealth preservation planning”, have other reasons for doing so. Estate planning, charitable planning, business continuity planning, etc. are just a few examples of perfectly acceptable planning that happens to offer the same benefits of wealth preservation planning.
And finally – if you are sued, and you don’t already have a wealth preservation plan in place, be very skeptical of attorneys’ claims that they can help protect your assets. It’s almost always too late at that point. The best you can generally hope for is to rely on your state’s homestead exemption (to protect the equity in your home) and/or federal exemptions for your retirement plan, if it’s “qualified” under the Employee Retirement Income Security Act (ERISA). In some cases, bankruptcy may be a viable way to protect at least a portion of your assets.
But if you haven’t been sued, and you don’t know of any liabilities that might cause someone to sue you, we may be able to help. Here at Nestmann, we offer a customized, comprehensive, and well-rounded approach to wealth preservation that we call Private Wealth.
The report we send to our Private Wealth clients addresses:
- Estate planning
- Tax reduction strategies for you (and your business, if you have one)
- Investment strategies for your pre-tax and after-tax wealth
- Offshore investment
- Second residencies and passports
- and tax compliance.
And yes, although it incorporates wealth preservation, that’s not the primary focus.
If you think you could benefit from Private Wealth, we invite you to learn more by contacting us at email@example.com.