Interest in asset protection among the affluent has doubled since 2000.

With an estimated 50,000 lawsuits filed each day in the United States, litigation has become a national pastime. And as creditors and plaintiffs' attorneys look to hit the jackpot by taking deep-pocket defendants to court, it's essentially open season on wealthy individuals whose livelihoods carry inherent liability risks.

In California, builders are held liable for defects up to ten years after a building's completion. In Florida, the malpractice crisis is so bad that it's reported that about 6% of the state's physicians have "gone bare" by ditching their costly medical insurance and promising to pay the lesser of $250,000 or the judgment amount if they're sued. And as a result of the Sarbanes-Oxley Act passed in 2002 to regulate corporate governance at public companies, corporate CEOs and CFOs are held personally responsible for financial misconduct at their companies, with consequences ranging from reimbursing companies from their bonuses and gains from options to possible criminal penalties.

For these and other reasons, some financial professionals are seeing increased demand from wealthy clients for asset protection vehicles that shield their resources from lawsuits. A survey of individuals with at least $1 million in assets showed that 35% had some type of asset protection plan versus 17% in 2000. Also, 61% of those without such plans were interested in creating one, compared with 43% in 2000, according to Prince & Associates, a consulting firm in New Milford, Conn.

One area getting more notice is asset protection trusts, which are irrevocable structures that transfer legal ownership of trust assets to the trustee, who holds them for the beneficiary. Asset protection trusts differ from other trusts in that they're self-settled, meaning the person who sets up the trust can also be the beneficiary. If constructed properly, and if they're located in a jurisdiction that recognizes self-settled trusts, they present legal obstacles that protect assets in case the beneficiary is sued or files for bankruptcy. If a legal action ensues, a creditor can't attach the assets because it's the trustee, and not the beneficiary, who controls the assets.

Offshore trusts in Bermuda, the Cayman Islands, Gibraltar and other havens have been popular for years. (Contrary to popular lore, U.S. beneficiaries are still subject to U.S. income tax on these assets). Sensing a business opportunity, a handful of states-Alaska, Delaware, Nevada, Rhode Island and Utah-have passed laws since 1997 that permit similarly structured self-settled trusts.

The idea appears to be catching on. Jeffrey Lauterbach, chairman and chief executive of the Capital Trust Company of Delaware, says his firm holds more than $250 million in roughly 100 Delaware asset protection trusts, or about triple the amount from a year ago. Clients run the gamut from doctors to corporate executives (concerned about the dramatic rise in liabilities resulting from Sarbanes-Oxley regulations) to wealthy individuals concerned about possible litigation.

Titling Assets To Spouses

The Lexington Family Office in Daytona Beach, Fla., caters to the physician marketplace. Dale Veitch, the firm's family liaison, says titling of assets is an important asset protection tool for doctors. One of the methods they use is called tenant by the entirety, in which a physician titles his or her assets with their spouse. That protects all of the assets against a creditors claim, assuming the creditor is suing only one of them.

But this arrangement, like other titling structures such as family limited partnerships and limited liability companies, have their limits when it comes to asset protection. To fortify their defense, Veitch has placed some clients in a Delaware asset protection trust. "We generally use it to hold partnership units or shares of a corporation," he says.

Basically, the trustee (in this case, Capital Trust) controls the partnership units or corporation and has the power to distribute income from it or to liquidate it. As part of the arrangement, the beneficiary appoints someone as trust protector (an attorney, a business associate or anyone else they're comfortable with) to oversee the trustee to make sure it acts in the beneficiary's best interests. All the while, the general partner in the partnership or majority owner in the corporation maintains day-to-day control of the business operations. For litigation purposes, creditors can't attach the assets because the trustee has control over income distribution or liquidation of the entity.

In simplest terms, an asset protection trust aims to thwart attempts to get at someone's assets by placing obstacles in the path of creditors that either derail litigation altogether or create a settlement on the best possible terms for the defendant. "The process of asset protection is about helping clients build fences around their property so the wolves will go elsewhere," says Lauterbach. "Each person must decide how many fences they want."

Not everyone believes asset protection needs that many fences. Advisor Tim Kochis, CEO of Kochis Fitz in San Francisco, doesn't see much demand for these types of trusts at his wealth management firm even though 80% of his clients are corporate executives. For starters, the notion of irrevocable trusts and giving up control of assets are "huge turnoffs" for many of them.

Kochis believes that lack of portfolio diversification (i.e., too much company stock) is a bigger risk to the assets of corporate honchos than lawsuits. Just in case, though, he urges clients to get at least $5 million in umbrella liability insurance, which he says comes cheap at about $2,000. In addition, he notes that companies often foot the bill to indemnify senior executives, officers and directors. "They're as protected as they can be, given the risks they run," says Kochis.

Jeff Swantkowski, co-founder of Patriot Wealth Management in Houston, will steer clients toward asset protection trusts if they demand it, but he generally prefers using more conventional asset protection methods. "Most of my clients come to me with complicated assets and financial structures," he says. "We try to simplify their situations, which is contrary to what's done to complicate matters in the name of litigation protection."

Swantkowski's clientele includes many corporate executives, and like Kochis his game plan includes a coordinated arsenal of property and casualty insurance, umbrella insurance and professional liability insurance. Annuities also provide a degree of protection through their insurance component. In addition, Swantkowski might use estate planning vehicles such as family limited partnerships. "FLPs aren't the ultimate asset protection tool," he says, "but they are good mediation tools."

Creditors who sue an FLP can't attain an interest in the partnership; instead, they get a charging order that lets them sit on the doorstep and wait for any distributions declared by the FLP's general partner. If the general partner has other protected assets to live on and there's no need for distributions, then the creditor might wait for years to get its reward. Plaintiffs' lawyers typically don't have time to wait that long to get paid, so in theory that circumvents a lawsuit and encourages a settlement.

Trusts Aren't Cheap

Asset protection trusts can cost from $10,000 to $20,000 to establish, plus administrative and asset management fees that can add up to several thousand dollars a year. "If you add up the costs and the trust is worth only $500,000, then maybe putting money into annuities is a better route," says Gideon Rothschild, a partner at the law firm Moses & Singer LLP in New York. "But if it's a sizable trust and you amortize the upfront startup costs over ten to 20 years and add that to the annual costs, it still might be less than an annuity or insurance product."

A big concern for many advisors is that domestic asset protection trusts have yet to be tested in court. "There is no legal precedence, so the big question is will they stand the test of time?" asks Carol Buchman, a certified financial planner in New York and co-host of the radio show, "Financially Speaking."

Setting up a trust to defraud the government or to avoid existing problems with creditors is called fraudulent conveyance, and the courts use that to go after a trust. With cases involving offshore trusts, beneficiaries who refused to hand over assets have gone to jail for contempt.

"Trust companies shouldn't accept clients unless they're clean and legit," says Robert Mintz, an attorney in Oceanside, Calif., who operates the Asset Protection Law Center Web site. "When trusts are properly structured and the client is clean when they set it up, our experience is that trusts hold up very well."

Buchman finds that among her high-net-worth clientele the demand isn't so much for asset protection trusts as it is for managing resources in a more asset protective way. "IRAs and qualified plans provide strong asset protection against liability," she says, noting that O.J. Simpson has shielded much of his assets against claims from a $33.5 million wrongful-death suit because the families of his alleged victims can't touch the assets in his qualified plan.

Indeed, ERISA laws protect 401(k) assets in most cases, and some states exempt IRAs and pension plans from creditors. Simpson was forced to hawk his Heisman Trophy to help pay part of his penalty, but moving to Florida let him take advantage of that state's generous exemption laws that protect qualified plans, annuities, primary residences and other assets from seizure by creditors.

But not all states are that munificent when it comes to asset exemption, so advisors need to be aware of their options. "There are a lot of people out there selling asset protection under a one-size-fits-all umbrella," says Adam Kirwan, partner at the Kirwan Law Firm in Orlando, Fla. "But every aspect of asset planning has its upside and downside, and which methods to use depend on the type of assets a client has and what their goals and needs are. Some of the simpler asset protection techniques can be some of the best."