How Do I Protect My Property from Creditors?

The key to legally protecting your assets from creditors and getting peace of mind is planning ahead.  “[Asset protection] is a really complex area of law, and it’s very fact-specific,” says Seth E. Dizard, a debtor-creditor rights attorney in Milwaukee, Wisconsin. “There is a fine line between aggressive planning strategies and conservative planning strategies—and what are just outright fraudulent planning strategies.” For example, if you try to transfer or sell assets after a judgment is filed against you to prevent the creditor from taking the property, that’s called fraudulent conveyance. If you commit fraudulent conveyance, your creditor can sue you to stop the transfer of property. In the end, you still must give up the property, and you have only caused more legal trouble. 

“While there are very clear laws state by state, it all depends on applying the facts to the law. So, absolutely get a lawyer involved in making these deliberations. Once you get a judgment against you, it’s too late—I can say that almost categorically.” 

How Creditors Get a Claim on Your Property 

A debtor is a person or business that owes money to another party. On the other side, a creditor is a person or company owed money by someone else. There are two basic types of creditors: 

Secured Creditors 

When a loan or purchase is backed up by a piece of property (known as collateral), it’s a secured debt. If a debtor fails to make payments on a secured debt, the creditor can repossess the property serving as collateral. For example, in a mortgage, the house you take the mortgage out for secures the loan. If you cannot make your mortgage payments, the lender can initiate a foreclosure action to take the house back. Depending on the type of foreclosure, this may involve court proceedings. 

Similarly, your lender can repossess your car if you default on car loan payments. Depending on the state you live in, a lender may be able to come and repossess the car without any prior notice. You may be leaving your work or house one day, and your vehicle has been taken. Auto repossessions negatively impact your credit report and can last several years. 

Unsecured Creditors 

Unsecured debt is not backed by an asset such as a house or car. Common types of unsecured debt are medical debt and credit card debt. There isn’t a particular piece of property or collateral a creditor can take back if you don’t make your payments. 

Before resorting to legal action, unsecured creditors will try to collect what they’re owed. Creditors can try to collect directly or hire a debt collection agency to act on their behalf. If their debt collection efforts aren’t successful, creditors may pursue a lawsuit against the debtor. Creditors typically only file a lawsuit if the debtor has assets they can seize, making legal action financially worthwhile. If a creditor wins a lawsuit against their debtor, they become a “judgment creditor.” This means the creditor obtains a court judgment authorizing them to take enough of the debtor’s property to satisfy the debt.  

A judgment creditor’s options include seizing some of the debtor’s property (with the help of local law enforcement or sheriff’s office), taking funds from the debtor’s bank accounts, and initiating wage garnishment against the debtor’s earnings.

Using Exemptions to Protect Assets  

Debtors can protect some of their assets from judgment creditors through their state’s property exemptions. Exempt property is protected from seizure when a creditor gets a judgment against you. For example, if the value of your car falls under a state exemption, you get to keep the car if a creditor tries to take it. 

State exemption schemes vary for both the types of property that are protected (real estate, other personal property), and the amount or dollar value of the property that is protected. States also have different rules about combining exemption amounts for married couples. Because of the legal variation from state to state, it’s essential to speak with a lawyer about the exemptions in your state if you’re worried about property being seized by a creditor. 

Protecting Your Assets in Bankruptcy  

Exemptions are also involved in bankruptcy cases. Bankruptcy is designed to give debtors a fresh start financially (though it doesn’t eliminate all obligations, such as child support and alimony). The most common type of bankruptcy for both individuals and businesses is Chapter 7 bankruptcy. Often called liquidation bankruptcy, Chapter 7 involves selling (or liquidating) the debtor’s assets and using the proceeds to repay creditors. 

Bankruptcy is primarily a matter of federal law under the U.S. Bankruptcy Code. However, state laws are also relevant in providing bankruptcy exemptions. The federal exemption scheme is the default if a state doesn’t have its own set of exemptions for personal property. One important exemption is the homestead exemption, which helps homeowners keep their primary residence in a bankruptcy proceeding. Whether a debtor can successfully use the homestead exemption to keep their house depends on their state’s laws and the amount of equity they have in the house.  

Any non-exempt property will be liquidated in Chapter 7 and distributed according to the priority of creditor claims. 

Protecting Your Personal Assets Through Business Structure 

Another asset protection strategy is to create a business that will shield your assets and reduce personal liability in the event of a lawsuit.  There are a couple of business structures that small business owners can use for asset protection: 

• Limited liability company (LLC). One of the significant benefits of an LLC is it protects business owners from liability for business debts.  
• Family limited partnership (FLP). An FLP allows you to transfer ownership of your assets and investments into the partnership. Through the transfer, the assets are no longer yours; instead, they are owned by the partnership as business assets. This helps shield the assets from your creditors. 

Every state has different requirements for creating an LLC and FLP, and it’s important to speak with a lawyer about setting one up.  

Protecting Assets Through Estate Planning 

Another method for protecting personal assets from creditors is to put them in a trust. A trust is one of the key documents in estate planning, which helps prepare for what will happen to an individual’s property when they die and how their loved ones will be provided for. 

There are different types of trust. By putting assets in a trust, an individual takes the assets out of their estate. This prevents the assets from going through probate when the person dies. 

While all trusts help avoid probate, not all are effective for shielding your assets from creditors.  

Revocable Trust

Also called a living trust, a revocable trust allows you to change the assets and beneficiaries you name in the trust. In other words, you retain control of the trust while you’re alive. This flexibility is a significant benefit of living trusts. However, because you maintain control of the trust, the assets are still considered your property, and creditors can come after those assets in payment of debts you owe. In other words, revocable trusts are good for probate avoidance but not creditor protection. 

Irrevocable Trust

Irrevocable trusts can’t be altered once you create them. Unlike living trusts, you don’t retain control of an irrevocable trust. Depending on your needs, this inflexibility may be undesirable. However, it’s a benefit if the goal is to protect assets from creditors. One type of irrevocable trust designed to shield trust assets from creditors is the domestic asset protection trust (DAPT), which is designed to shield assets from creditors. DAPTs are only available in some states, and it’s important to speak with a lawyer about this option for your estate planning. High net-worth individuals can also speak with a lawyer about creating offshore trusts for asset protection.  

Protecting Retirement Plans and Life Insurance Policies 

Assets in Roth individual retirement accounts (IRAs) have an approximate $1 million protection cap in bankruptcy cases. The bankruptcy court can increase this protection limit at its discretion. Additionally, employee retirement accounts subject to the federal Employee Retirement Income Security Act (ERISA) are protected in bankruptcy proceedings and creditor lawsuits. 

Life insurance policies and annuities are protected under state laws. Like exemptions, these protections vary from state to state regarding the type of insurance protected and the amounts covered. As always, speaking with a lawyer about protecting your life insurance and retirement accounts from creditors is essential. 

Speaking with an Attorney 

Fortunately, many attorneys provide free initial consultations to prospective clients. These consultations allow the attorney to hear about your case. They also let you get legal advice and decide if the attorney or law firm meets your needs. 

To see whether an attorney is a good fit, ask informed questions such as: 

• What are your attorney’s fees, and how do you bill your clients? 
• What actions should I avoid in protecting my assets? 
• What actions should I take to protect my assets? 
• Can my creditors sue me? 
• How do I avoid legal action from creditors? 

It is essential to approach the right type of attorney—someone who can give you legal help through your entire case. Visit the Super Lawyers directory to find a debtor and creditor rights attorney.