Inaccurate advice from CPA can pose serious risks to assets

As a CPA with more than 20 years of experience and an attorney lecturer to CPA groups nationwide, we are always surprised how few physicians have gotten any advice or even direction on asset protection from their CPAs. Ask yourself: has your CPA helped you shield your assets from unnecessary exposure? Likely not.

Unfortunately, even when doctors do get asset protection advice from their accountant that advice is often plain wrong. Common misguidance 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 will protect you.”

Let’s take each of these common CPA myths separately:

1. “Your insurance protects you”
While we strongly advocate property and casualty (P&C) insurance as part of your asset protection plan, 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 - such as 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 quite unwise to rely solely on insurance for your protection - especially when many asset protection techniques actually will save you taxes and help you build retirement wealth.

2 a. “You don’t need a professional corporation (PC)”
We have talked to probably 100 physicians 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 misguidance, while almost no other sophisticated businessperson would do so. 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 his or her 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 employees might get in when 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. Without one, all of your personal wealth would 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 100 percent of solo attorneys use one. Why is it not good enough then for small medical practices? We have no idea!

2 b. “Use a ‘disregarded entity’ for tax purposes”
Related to the mistaken advice that physicians 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 corporation or LLC can elect not to be treated as a separate entity with its own employer identification number (EIN), but, instead, to be treated as a “disregarded entity” using the Social Security number 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 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. 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 he chose a different tax status. Typically, the “S” tax status would be superior here.

Thus, this misdirection is wrong on two levels - both asset protection and tax. Nevertheless, in just the past six months, we have worked with two extremely successful solo physicians who had been following the CPA advice to have disregarded entities. These are physicians with more than $1 million in annual income and significant net worths. If they can get this “advice” from their advisers, anyone can.

3. “Just put your assets in your spouse’s name”
The third-most common CPA misdirection about asset protection is that assets in a 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 nonphysician 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, 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 or she thinks would happen in a divorce if you were to follow his or her advice and put all of the assets in the spouse's name. We would bet that the CPA would say that the court would treat these assets as joint because you are still treating them as joint (living in the house, spending the accounts, paying the taxes) - the court knows that you haven't really "given the asset away" to the spouse. Most likely, this is exactly the way the court would treat them for creditor purposes, as well.

Proceed with caution
In today’s environment, asset protection should clearly be part of any physician’s financial plan. It is unfortunate that so many doctors are often tripped up by poor advice from accountants. On our end, we try to educate CPAs in CPE lectures around the country. On your end, you should watch out for such poor advice and meet with an adviser who is well-versed in these matters to be part of your team and work with your CPA.

Special offer: For a free (plus $5 S&H) copy of For Doctors Only: A Guide to Working Less and Building More, please call (877) 656-4362.

David B. Mandell, JD, MBA is an attorney and principal of the financial consulting firm O’Dell Jarvis Mandell LLC, where Carole C. Foos, CPA works as a tax consultant. They can be reached at (877) 656-4362.

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