Can You Create A Lien Against Properties In An LLC To Make It Less Desirable For Lawsuits?
I have read and heard many times of the advantages of LLC's in case of a lawsuit. The big problem that I have noticed though is that basically the advice says that if you lose a lawsuit, you only lose the property in the LLC that is involved and not your other assets. I don't know about other folks, but it would be more than just a minor misfortune to lose all that I owned in one of my LLC's. Therefore, I was wondering if it might be possible to take all the equity out of the LLC by making the LLC take out a loan from me. Then if someone looked at the LLC and saw that they were going to get properties worth $300k but they had $300k liens against them, they would see no monetary reward in trying to take the properties. Has anyone tried something along these lines? From what I was told one time by my attorney, lawyers only go after someone or thing if they have money. They don't waste their time and money nothing.
Davmille,
I think if they have a reason to sue they will still sue and go after your insurance. If you lessen your chances of being sued and raise your insurance protection you might be OK.
Jeff
There are a couple things you can do. You can simply get a high LTV loan against the property(ies). But you can also do a more advanced strategy of what's called "equity stripping". I don't really understand how it works but I think it has to do with separating the ownership of the property between the equity portion and debt portion of the asset's value.
Does anyone know more about exactly how equity stripping works?
Equity Stripping > Overview
Overview
Equity stripping combined with an Equity Reduction Plan (“ERP”), is a highly effective and sophisticated form of asset protection.
Depending on the circumstances and the type of assets involved, an ERP can be used by itself or in combination with other techniques.
An ERP is designed to protect equity in real estate or business assets from a potential future claim.
Real estate assets are always vulnerable to a lawsuit. During the last 10 years there has been a dramatic increase in the value of most properties. A significant portion of your net worth may have shifted from stocks to real estate equity.
Physicians and other professionals have additional value locked inside their practice in the form of accounts receivable and equipment. A lawsuit against the practice from a patient or employee exposes these assets to risk of loss.
Business owners may have inventory, equipment, patents, and trademarks in addition to accounts receivable. If these assets have value it is logical and prudent to protect them from the risks of the business.
In many situations, where movement of an asset is impossible or impractical, equity stripping within an ERP can move the equity or the value of an asset into a protected position. Ownership of the underlying property remains the same and need not be transferred. This is a clear advantage in many situations:
Those who own multiple properties can avoid the inconvenience and cost associated with forming several Limited Liability Companies.
An ERP protects the equity in a property from a claim arising out of the property itself (an “inside” liability). This cannot be accomplished with an LLC or any other entity.
An ERP avoids a transfer of real estate ownership and potential problems with increased property taxes, transfer taxes and due on sale clauses from a lender.
Accounts receivable usually cannot be transferred out of a professional practice because of accounting problems and insurance company restrictions. An ERP is the only technique available to insure the protection of the cash flow cycle of billing and collection.
Similarly, the inventory, equipment and intellectual property in a business are essential for operations and future success. An ERP is designed to avoid disruption or loss of the business by protecting these assets.
Valuable but unproductive equity in real estate, accounts receivable and business property can be leveraged for business or investment purposes. These dormant assets can be put to work in an ERP, enhancing asset protection and generating additional income.
Equity Stripping > Examples
Examples
Examples We can make these advantages clear with several examples of how equity stripping stripping combined with an ERP solved particular asset protection problems.
Client A owned 6 rental houses that he had purchased and renovated over the years. Most of his surplus cash went into buying and fixing up the properties. Sometimes he sold a property and reinvested the proceeds. Our view is that rental real estate is always a “Dangerous Asset” creating potential lawsuit liability from tenants, visitors and buyers and sellers. There are three possible asset protection plans:
All the properties in one LLC. We could form one LLC and put all the properties in that single company.
Advantage-Client is protected from liability associated with the properties. He cannot be sued if there is a claim arising from any property. This is also relatively inexpensive to establish and maintain.
Disadvantage-The combined equity of the properties is available to satisfy a claim arising from any property. If someone is injured at one property and successfully sues the LLC owner, the equity value of each property is exposed to this claim
Separate Limited Liability Companies. We could form six new LLC’s and transfer each property to it’s own LLC.
Advantage-A liability produced by one of the properties would be insulated and contained. Neither the other properties nor Client would be at risk.
Disadvantage-The equity in the particular property is exposed to the liability created by that property. If a tenant is injured in the house owned by LLC #1, although the other properties are not exposed, the equity in that property is available to satisfy the claim. Potential loss has been substantially reduced but still remains.
Equity Stripping in Combination With an Equity Reduction Plan-An ERP presents a partial or complete solution.
Advantage-We can form one LLC to limit Client’s exposure to liability from all of the properties. By transferring property equity into an ERP, no portion of the accumulated equity is at risk. An accident at one property presents no risk to the equity of that property or to the equity in other properties. Whatever value has accumulated in the properties is shielded from any liability-regardless of the source. If the Client is sued for any reason, 100% of the value of the properties has been protected.
Disadvantage-We achieve full protection which could not be accomplished in any other way so there is no particular disadvantage to this plan. As with all asset protection plans, the cost of insuring against a risk must be weighed against the amount of the potential loss. It doesn’t make sense to pay $100 to insure an asset with $100 in value. Depending upon the degree of risk involved it may make sense to pay $100 to insure an asset worth $5,000. Legal fees and maintenance costs for an ERP must be balanced against the amount and likelihood of a potential liability.
Client B owns a commercial property with substantial equity.
The analysis should be clear. If we put the building in an LLC we protect Client against liabilities arising from the property. However, the full amount of the equity is exposed in the event of such a claim. Again, we would form an LLC to hold the property and use an ERP to protect the value.
Client C is a physician.
He has valuable accounts receivable in his practice.
Sometimes, transferring an asset, such as accounts receivable will create tax, accounting or administrative problems. Instead, an ERP legally transfers the equity in the asset, not the asset itself into a protected position. Using this approach we avoid difficult issues but still protect the accounts receivable. If Client C is sued someday in the future, instead of losing the collections on the accounts receivable, funds are protected in the ERP and cannot be seized by a successful plaintiff.
(R.J. MIntz)
Thanks 4KASH,
Fantastic information and explanation! I'm printing it out right now.
Just ordered it...Thanks!
Tim