This presentation explains how life insurance, retirement plans and captive insurance can aid in the asset protection process

1. HOW CAPTIVE INSURANCE, LIFE
INSURANCE AND RETIREMENT
PLANS AID IN ASSET PROTECTION
PLANNING
F. Hale Stewart, JD, LLM, CAM, CWM, CTEP
Author of the book U.S. Captive Insurance Law
Where Finance, Economics and Law Meet
For The Law Office of Hale Stewart,
HS Captive Management

2. INITIAL CONCEPTS

3. WHAT IS ASSET PROTECTION?
 Asset protection is not a formally recognized
legal discipline; you can’t go to law school or
graduate school and obtain an asset protection
specialty. However, it involves fairly disparate
areas of law:
 Business entities
 Taxation
 Estate Planning
 Debtor/Creditor Law
 International Tax Law
 Bankruptcy

4. WHAT IS ASSET PROTECTION?
 There are several events which can negatively
impact an individual’s financial well-being. In
general, these are bankruptcy, litigation,
divorce, physical/mental incapacitation and
death . Asset protection looks at each of these
events, and then asks this fundamental
question: "how can we mitigate the financial
damage these events have the potential to
cause?" Or, put another way, asset
protection is the legal discipline of
mitigating , or attempting to mitigate, the
negative impact of various financially and
legally catastrophic events.

5. WHEN CAN WE ENGAGE IN ASSET PROTECTION
PLANNING?
 In general, we can’t engage in asset
protection when we know with a pretty high
degree of certainty that a judgment, debt,
payment, bankruptcy or the like is right
around the corner.
 Put another way, we can only engage in
asset protection when things are going well.

6. ASSET PROTECTION 101
 One of the primary tools asset protection
planners utilize is ―target minimization,‖ or
―firewalling,‖ which is the practice of
separating and compartmentalizing risk.
 For example, instead of a company owning
its intellectual property outright, it forms a
second company that owns the IP and then
licenses the IP from the new company.

7. TAX PLANNING
 The Eight Tools
 Three are derived from the tax code
 Exemption: (For example – the proceeds of life insurance)
 Deduction: (For example – payments to some retirement
plans)
 Credit
 Five are more ―terms of art,‖ which require advanced
planning
 Deferral:Why pay today when you might pay tomorrow?
 Conversion: Changing ordinary income into capital gain
 Compression (Usually accomplished with a FLiP)
 Freezing: (Usually accomplished with a GRAT or IDGT)
 Arbitrage: Playing one tax jurisdiction against the other

8. Asset Protection
and Bankruptcy

9. BANKRUPTCY AND LIFE INSURANCE
 In general, all property owned by the
debtor becomes property of the
bankruptcy estate:
 The commencement of a case under
section 301, 302, or 303 of this title
creates an estate. Such estate is
comprised of all the following property,
wherever located and by whomever
held:
 (1)Except as provided in subsections (b) and
(c)(2) of this section, all legal or equitable

10. BANKRUPTCY AND LIFE INSURANCE
 But, there are exceptions:
 26 USC 522(d)(7) Any unmatured life insurance
contract owned by the debtor, other than a
credit life insurance contract.
 See also, Ohio Rev. Code Section 3911.10: All
contracts of life or endowment insurance or
annuities upon the life of any person, or any
interest therein, which may hereafter mature
and which have been taken out for the benefit
of, or made payable by change of beneficiary,
transfer, or assignment to, the spouse or
children, or any persons dependent upon such
person

11. BANKRUPTCY AND RETIREMENT PLANES
 The following are excluded from the bankruptcy
estate:
 26 USC 522(d)(10)(E) a payment under a stock
bonus, pension, profitsharing, annuity, or similar plan
or contract on account of illness, disability, death,
age, or length of service, to the extent reasonably
necessary for the support of the debtor and any
dependent of the debtor, unless—
 (iii) such plan or contract does not qualify under
section 401(a), 403(a), 403(b), or 408 of the Internal
Revenue Code of 1986.

12. BANKRUPTCY AND NONQUALIFIED DEFERRED
COMPENSATION PLANNING
 While non-qualified deferred compensation
planning does not enjoy ERISA exemption,
there are still ways to structure these
programs to minimize the effect of
bankruptcy. For example, if the employee
and not the employer has a higher risk of
bankruptcy, a NQDC plan owned by the
employer may be appropriate.

13. QUICK SUMMATION OF ASSET PROTECTION AND
BANKRUPTCY
 The bankruptcy estate includes (essentially)
every asset owned by the debtor, wherever and
however owned.
 Under the bankruptcy code, the following assets
are exempt from the bankruptcy estate, making
them good assets to own as part of an asset
protection or overall financial plan:
 Life insurance
 Retirement plans
 Some non-qualified deferred compensation plans

14. CAPTIVE INSURANCE AND ASSET PROTECTION
 A captive insurance company is a separate
corporate entity from the parent corporation. As
such, it is not a party to a suit brought against
the parent.
 Therefore, assume that a parent plays $1 million
in premium to a captive over a 10 year period.
Assuming for some payouts, management fees,
and prudent risk management, the captive
should still the bulk of its assets after a 10 year
period.

15. WHO SHOULD FORM A CAPTIVE?
 A company that has an above-average
risk profile.
 A company or individual with the financial
resources to contribute to the captive.
 Finally, a company should have a good
combination of income and risk
◦ Ideally, a company should have $3 million in
gross revenue
◦ But a company that has $1-$3 million may
have enough risk to warrant looking at a
captive.
◦ Please call if you have questions

16. WHAT COMPANIES ARE MORE
LIKELY TO BENEFIT FROM A
CAPTIVE
 Doctors and other professionals
 Manufacturers
 Exporters and Importers
 Dry Cleaning
 Construction Related Professions
◦ Contractors
◦ HVAC
◦ Plumbing
 Oil and Gas
 Hotels, Motels, Restaurants and Inns
 Transportation Companies

17. WHAT ARE THE BENEFITS OF
FORMING A CAPTIVE?
 Custom Insurance Policies
 The Beech Case
 Using Individual loss experience in determining
insurance rates
 Gives the insured negotiating leverage with third
party insurers
 Third party insurer insures standard risk
 The captive underwrites specialty risk
 Captives can be used as wealth transfer vehicles
 Small Insurance Companies are Taxed
Advantaged
 831(b)

18. WHAT ARE THE BENEFITS TO FORMING A
CAPTIVE, CON’T?
 Underneath the insurance and risk
management purposes of a captive
insurance company is a great tax arbitrage
opportunity.
 In the current year, the insured lowers his taxable income
through the payment of insurance premiums. In forming the
captive, the insured is most likely insuring a large amount of
risk which was previously ―self-insured,‖ meaning the insured
paid for losses out of current earnings and savings.
 The premiums are placed into a tax-advantaged vehicle –
remember that small insurance companies are taxed on their
current portfolio income rather than their current earnings.
 When the insured sells his captive shares, the transaction is
taxed as a capital gains transaction rather than as an ordinary
income transaction.

19. WHAT ARE THE STEPS TO FORMING
A CAPTIVE?
 After a company decides to form a captive,
the next step is to perform a feasibility
study, which has three objectives.
 It provides a blueprint for the entire captive
program.
 Second, it aids in compliance.
 Third, the study can aid in selling important
decision-makers within the organization on the
plan.

20. WHAT ARE THE STEPS TO FORMING
A CAPTIVE?
 The jurisdiction where the captive is being
formed must determine if forming the
captive is in the jurisdiction’s best interest.
To do that, they will consider
◦ (i) The character, reputation, financial standing
and purposes of the incorporators;
◦ (ii) The character, reputation, financial
responsibility, insurance experience and
business qualifications of the officers and
directors; and
◦ (iii) Such other aspects as the commissioner
shall deem advisable.

21. WHAT ARE THE STEPS IN FORMING
A CAPTIVE, CON’T
 Next, the applicant must make a formal
application to open an insurance company. The
application must typically contain the following
information
 (A) The amount and description of its assets relative to
the risks to be assumed;
 (B) The adequacy of the expertise, experience, and
character of the person or persons who will manage it;
 (C) The overall soundness of its plan of operation;
 (D) The adequacy of the loss-prevention programs of its
parent, member organizations, or industrial insureds, as
applicable; and
 (E) Other factors considered relevant by the
commissioner in ascertaining whether the proposed
captive insurance company will be able to meet its policy
obligations
 Finally, there is the issue of original capital and
surplus.

22. RUNNING THE CAPTIVE
 Domicile manager
 Legal counsel
 Audit
 Actuarial Services
 Investment manager

23. SHUTTING DOWN THE CAPTIVE
 In most states, one of the following seven reasons
will allow a state regulator to shut down a captive:
◦ 1. Insolvency or impairment of capital and surplus.
◦ 2. Refusal or failure to submit an annual report … or any
other report or statement required by law or by lawful
order of the director.
◦ 3. Failure to comply with the provisions of its own articles
of incorporation, bylaws or other organizational
document.
◦ 4. Failure to submit to an examination or any legal
obligation related to the examination.
◦ 5. Refusal or failure to pay the cost of an examination.
◦ 6. Use of methods that, although not otherwise
specifically prohibited by law, render its operation
hazardous or its condition unsound with respect to the
public or to its policyholders.
◦ 7. Failure otherwise to comply with the captive statute.

24. CONCLUSIONS/SUMMATION
 Asset protection attempts to minimize the negative
impact of catastrophic events such as litigation or
bankruptcy.
 Tax planning allows us to determine the year in which
we recognize income, and, in some situations,
change the nature of the income received.
 The following financial assets are excluded from the
bankruptcy estate
 Life Insurance
 Retirement plans
 Some Non-Qualified Deferred Compensation