First, Do No Harm. Second, Do Your Estate Planning: Estate Planning for Doctors
/Doctors have many of the same estate planning concerns as non-doctors – maximizing federal and state estate tax exemptions, directing the proper distribution of assets and the proper mode of distribution (e.g. in trust or outright), nominating guardians for minor children and selecting executors to administer the estate according to the plan. However, many doctors have additional concerns relating to their assets and estates, including asset protection and transitioning or unwinding a medical practice.
Asset Protection
Like many professionals, doctors run the risk of being sued for malpractice and related claims. Recent polling indicates that 55% of doctors are sued at some point during their careers, and one-half of those are sued more than once. Specialists are more likely to be sued than primary care physicians, with surgeons (85%) and OB/GYNs (85%) being the specialists sued most frequently, and psychiatrists (29%) and dermatologists (28%) being the specialists sued least frequently.
Liability insurance is a doctor’s first line of defense against malpractice claims. However, while liability insurance can mitigate a doctor’s personal liability, it does not guarantee that the doctor’s personal assets will be safeguarded from a money judgment or that a litigious patient will not go after the doctor personally. Therefore, it is important for doctors to engage in some kind of asset protection planning, and it is vital that they do so before a malpractice claim arises; indeed, fraudulent conveyance laws will nullify most asset protection strategies implemented after the alleged malpractice occurred.
When considering various asset protection options, doctors must be cognizant of how asset protection can impact their estate plan.
Investment in Exempt Assets
A strategy that is effective for both asset protection and estate planning is investment in exempt assets. In New York, ERISA-qualified retirement plans (such as 401(k)s, pension and profit-sharing plans, life insurance plans and HSAs) and non-ERISA qualified retirement plans (such as IRAs, employer-only plans and government or church plans) are completely exempt from creditors’ claims as long as they are funded before a claim arises. Doctors interested in asset protection may fund such plans with the maximum amount possible and these funds will be protected from creditors (unless, or course, the doctor takes a withdrawal). Furthermore, as long as the beneficiary designations on the plans are properly completed, upon the doctor’s death the assets will pass to her heirs outside of her probate estate and will never be available to satisfy creditors’ claims.
Trusts
While self-settled spendthrift trusts, of which the grantor is also a beneficiary, are generally ineffective to protect assets from creditors, there are some foreign (e.g. the Cook Islands) and domestic jurisdictions (e.g. Alaska, Delaware and South Dakota) that specifically grant creditor protection to such trusts. There are some drawbacks to these trusts, however. First, establishing and maintaining these trusts can be costly. Because the trustee must be a resident of the jurisdiction, this may mean paying a steep annual trustee fee to a corporate trustee authorized to do business in the jurisdiction. Second, these trusts are not guaranteed to be effective. The enforceability of the creditor protections of these trusts is not entirely clear, particularly where the grantor does not actually live in the jurisdiction where the trust was established, and a creditor may still be able to access the trust funds.
However, spendthrift trusts created by a third party for the benefit of the doctor are generally immune from the claims of creditors, and are excellent vehicles for inheritances from relatives – including the doctor’s spouse. For example, if the doctor transferred the bulk of her assets to her spouse for asset protection purposes (this strategy is discussed in greater detail below), the spouse should sign a will that provides for such assets to be held in a spendthrift trust for the benefit of the doctor. In that way, the doctor gets the benefit of the assets, but her creditors cannot reach them. In contrast, if the spouse died without a will, or with a will that did not provide for the creation of a spendthrift trust, the doctor’s creditors would attach the assets as soon as the spouse died.
The same holds true for inheritances from other relatives; for example, from a doctor’s parents. If a doctor received an inheritance outright from her parents, this money would potentially be available to creditors, especially if the doctor received the inheritance after a malpractice claim had already arisen. However, if her parents left this inheritance to her in a spendthrift trust, her creditors would not be able to access it (unless, of course, she received a distribution). Accordingly, doctors should ensure that any inheritances they receive (particularly from a spouse) are held for their benefit in a spendthrift trust, as opposed to an outright distribution.
Transfer to Entity
Another common asset protection device that allows for congruent estate planning is to transfer assets to an entity, such as a limited partnership or a limited liability company. Under this strategy, the doctor would invest in the entity and upon the doctor’s death, she would cease to be an owner of the entity, and her interest therein would be distributed to her spouse, children, etc. In this way, the doctor retains ownership of a valuable asset for estate planning purposes, but her lack of control over the asset would thwart potential creditors.
While a creditor could obtain through litigation a “charging order,” which would allow the creditor to step into the doctor’s shoes for purposes of ownership, the spouse or trust at the helm of the entity would still be making all decisions and could ensure that no distributions were actually made to the creditor. Upon the doctor’s death, her interest would be extinguished and her creditor’s charging order would terminate as well. Charging orders are generally unattractive remedies to creditors, and may deter the creditor or, possibly, lead to a settlement.
Tenancy By The Entireties
Twenty-five states, including New York, recognize tenancy by the entireties as a means of joint ownership of real property. Tenancy by the entireties is available only to spouses and, rather than each being owners of a portion of the real property (as with other forms of joint tenancy), each spouse owns 100% of the property. This means that neither spouse can transfer their interest in the property without the consent of the other and, upon the death of one spouse, the other automatically becomes the sole owner of the entire property.
Ownership of property as tenants by the entireties is effective asset protection planning because a creditor cannot take what the debtor cannot give – and a debtor who owns her home with her spouse as tenants by the entireties cannot give it to anyone. A creditor could attach a lien to the debtor’s interest in the property, but this lien would only be effective if the property was ultimately sold, or if the debtor’s spouse predeceased the debtor (in which case the tenancy by the entireties would terminate and the debtor would own the property individually).
Ownership of property as tenants by the entireties is also effective estate planning because it ensures that the family home will pass to the surviving spouse automatically, bypassing the probate process altogether, and without being potentially subject to estate tax on the death of the first spouse.
Transfer to Spouse
Another common asset protection device is to transfer assets to a spouse. It is effective because it can render a doctor judgment-proof – if she has no assets, her creditors have nothing to take. However, this strategy may not be practical for several reasons. First, if the doctor and the spouse later divorce, the doctor may lose the transferred assets permanently. Second, if the spouse is later sued (either for his own malpractice or for some unrelated reason) or incurs significant personal debt, the assets could be lost to the spouse’s creditors. Third, if the doctor’s spouse dies first, the assets would potentially return to the doctor, negating the intended asset protection effect.
This strategy may also be impractical from an estate planning perspective. For example, assume that the doctor has children that are not also the children of the spouse. When the doctor dies, there are no assets in her estate to be distributed to her children – all of her assets have already been transferred to her spouse, who may choose to disinherit the doctor’s children entirely. While the doctor and her spouse may have had an agreement that the spouse would ensure that the children receive their inheritance upon the spouse’s later death, there is no guarantee that the spouse will honor this agreement, or that there will be any assets remaining at the spouse’s later death.
Transitioning or Unwinding the Practice
Another important estate planning consideration unique to doctors is how to transition or unwind a medical practice upon the doctor’s death.
Liquidating the Practice
In some instances, a doctor’s death may result in the liquidation of the practice (for example, if the doctor was a sole practitioner and did not designate a successor to take over the practice). In these instances, the doctor’s executor will be responsible for winding down the business.
One of the first things the executor must do is to notify all of the doctor’s patients of the doctor’s death and advise these patients that they have the right to a copy of their patient file and to have their patient file transferred to a new doctor of their choosing. The executor will also be responsible for arranging for copies of the patient’s files to be provided and/or transferred at their direction.
Additionally, New York law mandates that medical records must be retained and made available to patients for at least six years from the date of the patient’s last visit (and obstetrical records and the medical records of children must be retained for six years or until the child reaches the age of 19, whichever is later). This means that the doctor’s executor will also be responsible for storing the doctor’s patient files in a HIPAA compliant manner and making these files available to patients upon request.
It should be fairly obvious that the requirements of liquidating a medical practice are incredibly burdensome for an executor, particularly if that executor is not also a doctor. However, doctors can make this process easier on their executors through a thoughtful estate plan.
First, while a patient is always entitled to a copy of his or her medical records, the original records belong to the medical practice (or the doctor, if the practice is a solo venture), and the doctor can bequeath the medical records to a colleague who may be in a better position to properly maintain and store them.
Next, the doctor can include instructions in her Last Will and Testament that will help her executor wind down the practice, for example, directing the executor to deposit the medical records with a specific medical record storage facility that the doctor has already vetted and has a relationship with. If the doctor intends to nominate someone unfamiliar with her medical practice as executor (for example, a spouse or child), she may also consider nominating a co-executor who is familiar with the medical practice for the specific purpose of unwinding the practice.
Finally, the best thing a doctor can do to assist her executor in the ultimate unwinding of the practice is to be organized. Maintaining clearly labeled files with complete patient and vendor information, in addition to other crucial details about the practice (such as bills, insurance, the location and existence of narcotics (which will need to be reported to the DEA)), will help to ensure an ease of administration.
Succession Planning
While succession planning should be a key component of the estate plans of all business owners, having the right succession plan is particularly important to doctors because the rules governing the operation of a medical practice impose special restrictions on the transfer of a doctor’s interest in the practice.
As an illustration, assume that three individuals entered into a real estate investment business together. They each owned one-third of the company, and all decision-making was by majority vote. Their operating agreement did not include a succession plan (e.g. a buy-sell agreement) and was silent on the issue of the effect of the death of a member. Upon the death of one of the members, the deceased member’s heirs would take her place as a member and, while her heirs could seek a buy-out of the member’s interest from the other members, they could also sit back and simply collect their share of the company’s profits over the life of the company, which may be the more lucrative option.
However, if these individuals were doctors and their business was a medical practice, this would not be an option. In New York, groups of physicians can only practice medicine through a professional service entity of which all owners, members or shareholders must be licensed physicians and practice only that profession. As a result, upon the death of one of the doctors, the deceased member’s heirs would not be allowed to take her place as a member, unless they were also licensed physicians and practicing only that profession.
Realistically, the remaining members would have to pay the deceased member’s estate an amount equal to the deceased member’s interest in the practice. However, this could devastate the practice if it lacks the necessary liquidity to do so. Therein lies the import of having a succession plan in place – it ensures that the deceased doctor’s estate will receive its share of the practice within a reasonable time frame, and that the practice will not be forced to fold.
Buy-sell agreements are vital in this context. A buy-sell agreement provides, generally, that upon the death of a member, the remaining members will buy back the member’s interest and pay the purchase price to the deceased member’s estate or heirs. These agreements typically set forth the price to be paid (or the method by which the price will be assessed) as well as the time period for payment. Buy-sell agreements thus provide necessary clarity – the members know how much liquidity they will have to raise over a certain time period (and can plan accordingly, for example, by purchasing term life insurance policies on the lives of the members, the proceeds of which will be used to buy back the member’s interest) and the deceased member’s estate and heirs know how much money will be coming into the estate and when.
Estate planning is important for everyone, but even more so for doctors because of their unique need for asset protection, and the nature of their assets. Doctors should implement an estate plan early on – even before they acquire significant assets – because, as doctors are well aware, an ounce of prevention is worth a pound of cure.