Bankruptcy planning is wise especially if you do not expect to ever need it

Asset protection is a hot topic these days. Because it is, I have tried to research it a number of times to write about it. Generally, I found that most popular methods of protecting assets were of dubious ethical, moral, and legal standing.

Two methods, however, have stood out as ironclad:

• pensions in some states
• going bankrupt in states with unlimited homestead exemptions

O.J.

An 8/28/97 CNN story said that Fred Goldman had decided not to seek money from O.J. Simpson’s pension funds. Goldman was the father of Ron Goldman whom the civil jury found O.J. had wrongfully killed.

Fred was extremely outspoken and persistent at the time of the murder and trials. He won a $33.5 million joint judgment against Simpson. Why not go after the pension funds?

Futile four months

Goldman’s attorney Gary Caris said he had found nothing in four months to indicate that the funds were subject to seizure. CNN’s legal experts told them pension funds in California are exempt from civil judgments, period.

Reasonable ceiling?

What about some reasonable ceiling on how much O.J. could keep? Most bankruptcy laws allow bankrupts to keep workman’s tools, an inexpensive car, and things and amounts of cash like that. Apparently not in California. O.J.’s pensions add up to $25,000 a month—$300,000 a year—and Goldman cannot get one dime of it.

O.J. has announced he will not work because Goldman would get some of any pay he could earn. With $25,000 coming in a month, he can afford not to work—and golf. Simpson brags that a lot of people would love to have his current life. No kidding.

Luxury for the perp; scolding the victim

The judge actually scolded Caris for an hour for wasting four months of the court’s time trying to get at the pension funds.

O.J. murdered Fred’s son and Nicole Simpson. Fred and Nicole Simpson’s parents won a $33.5 million judgment against O.J. as a result. Now O.J. is living in the lap of luxury while the judgment goes mostly unpaid and his creditors’ attorney gets scolded for trying to seize his pension. Now that’s asset protection!

O.J. and the homestead exemption

It should be noted that O.J. lost his notorious house on Rockingham in Westwood (Los Angeles) when he declared bankruptcy as a result of the judgment. In California, a single person can keep only $75,000 of homestead equity when he goes bankrupt.

In states like Florida, he can keep an unlimited amount of homestead equity in a property up to 1/2 acre in a municipality or 160 contiguous acres elsewhere. Guess where O.J. has lived since 2000? In a $600,000 house on 112th Street in Miami.

I have heard that Nothing Down author Robert Allen, who also went bankrupt in California—only without any pensions, I suspect—has moved to Florida.

States that appear to have unlimited (dollarwise) homestead exemptions are:

• Arkansas (1/4 acre city; 80 acres elsewhere)
• Colorado (if it is a mobile home used as residence)
• Florida (1/2 acre city; 160 acres elsewhere)
• Iowa (1/2 acre city; 40 acres elsewhere)
• Kansas (1 acre city; 160 acres farm)
• Minnesota (1/2 acre city; 160 acres elsewhere)
• Oklahoma (1/4 acre city; 160 acres elsewhere)
• South Dakota (1 acre city; 160 acres elsewhere)
• Texas (1 acre city; 100 acres for individual and 200 acres for families elsewhere)

The homestead exemption in other states ranges from zero to numbers like $500. The federal homestead exemption is $7,500. So as far as home equity is concerned, what state you declare bankruptcy in makes a Mars-Earth magnitude of difference.

Statutes

California Code of Civil Procedure §704.110 says public retirement benefits are exempt from System 1 Bankruptcy in California. CCCP §704.115 says private retirement benefits including IRAs and Keoughs are also exempt. And California Government Code §21201 says that public employees’ pensions are exempt from bankruptcy.

ERISA maybe

Under California’s System 2 Bankruptcy, only ERISA-qualified benefits needed for support are exempt and a question was raised about that in Mackey v. Lanier Collection Agency and Service, Inc., 108 S.Ct. 2182 (1988). Obviously O.J. chose System 1.

Florida pensions

In contrast, Florida statutes protect only pensions of various government employees and possibly ERISA-qualified benefits like California although the same U.S. Supreme Court decision hangs over that exemption.

50-state list

You can see a 50-state list of pension bankruptcy exemptions in the Nolo legal self-help book How to File for Bankruptcy by Elias, Renauer, and Leonard.

Unlimited pension protection

Scanning the 50-state list, you will see that exemption for private pensions other than ERISA-qualified benefits needed for support is rare. In most states, only certain public employee pensions are protected. Here is a list of states that exempt private retirement benefits without limit according to Nolo:

• California
• Massachusetts
• Minnesota
• New Mexico
• Pennsylvania (unlimited protection if clause saying that in benefits agreement)
• Rhode Island
• Vermont
• Wisconsin

Limited pension protection

The following states exempt limited private pensions and/or IRA-type accounts:

• Alaska
• Arkansas
• Georgia
• Idaho
• Iowa
• Kentucky
• Mississippi
• North Dakota
• Oklahoma
• Texas
• Utah

Federal bankruptcy exemptions

In 14 states, you can choose the federal list of bankruptcy exemptions rather than your state.

• Connecticut
• District of Columbia
• Hawaii
• Massachusetts
• Michigan
• Minnesota
• New Jersey
• New Mexico
• Pennsylvania
• Rhode Island
• Texas
• Vermont
• Washington
• Wisconsin

The only pension on that federal list is the California System 2 ERISA deal that is questionable in light of the Supreme Court decision.

Look into it

I am not a lawyer or an expert on asset protection. You should consult competent authority—written or human—to verify and update the above and to get further details.

Asset protection is really bankruptcy planning

The bottom line is that all asset protection is really just a euphemism for bankruptcy planning. Bankruptcy planning simply means reading the list of exemptions that you are eligible for in your state and putting as much of your asset value into the exempt categories as possible.

Most must move to get maximum protection

States vary enormously in how much you can keep. Most states will leave you poor after bankruptcy. But, in some, you can still be rich after bankruptcy—if you arranged your equity wisely. So, serious asset protection really means moving to one of the states with generous exemptions if you don’t already live there.

I think the laws in the generous states are immoral vis a vis creditors, but I don’t believe it is immoral to move to such a state to avail yourself of those favorable laws.

Easier way?

Most people do not want to move. They want an easier solution like signing some magic papers. Just like some overweight people want to lose weight without dieting or exercising.

Ask the man who did one

I will also note that although few are willing to move to these states before their first bankruptcy, those who have already been bankrupt once seem very eager to move to those states. They know something we don’t.

Everyone thinks that going bankrupt is a really miserable experience. Apparently, it is far worse than people think in spite of their already very low opinion of it.

Destroys families

I have never experienced it or seen it from very close up, but I am told by those who have that it typically splits up marriages and families in addition to creating obvious credit problems.

A couple of the people I have known who went through it seemed to have too high an opinion of themselves before the bankruptcy, but too low an opinion after the bankruptcy.

Maybe a better way to put it would be that they were overconfident before and lacked an appropriate amount of self-confidence—given their experience and training—afterwards.

Texas apartments

I went through a lesser experience when my Texas apartment complexes tanked in the late eighties and early nineties. In that case, I was never late paying any bills other than the two apartment complex mortgages that I deliberately stopped paying to force the lenders to take the properties.

My inability to turn the properties around adversely affected my self-confidence for several months. I took long walks at night to try to sort it out.

Noting that virtually all others who invested in the same area were in the same boat is not helpful when you previously thought you were smarter than most of those guys.

Proper perspective

Eventually, I got the proper perspective. Assumption is the mother of all screw-ups. I assumed that Congress would never pass any law like the Tax Reform Act of 1986, that there would never be an oil glut after the gas lines of the 1970’s, and that the savings-and-loan industry would always be conservative and thereby prevent extreme overbuilding.

‘Perfect storm’

In fact each of those three things happened more or less simultaneously in Texas—a financial “perfect storm.” My perspective insight was that a real estate investor is like a sea captain. He contends with forces that are far greater than his ability to control or predict.

The most skilled sea captains know the best way to turn the rudder and the best speed at which to operate the propeller. But when you are in a typhoon and both the rudder and the propeller are out of the water half the time, these are not meaningful skills.

Similarly, a skill like knowing how to get market rent is not that useful when the market value of apartments has plummeted 30% due to massive overbuilding. Knowing how to maximize your income tax deductions is not that useful when Congress outlaws “passive loss” deductions.

Conquering?

A lone sailor went across the Atlantic in a row boat some years ago. He was asked how it felt to “conquer” the Atlantic. “I didn’t conquer it,” he said. “It let me go.”

Real estate investors would do well to adopt a similar perspective. If you made a lot of money in real estate, good for you.

But don’t start believing that you can predict or control interest rates. And never forget that interest rates can rise and thereby wipe out your equity or most of it at any time. The same is true of economic downturn, income tax law change, tort liability, and so forth.

You cannot conquer real estate. But it may let you go.

Not all businesses

This is not the case with all businesses. To extend the analogy, although there are major hazards both at sea and on land, the sea is a far more hostile environment for humans so your chances of getting into trouble you cannot handle there are greater than on land. In business, investments are more sea-like than, say, going into the sprinkler repair business.

Getting your asset-protection act together in the two major legitimate ways—availing yourself of the best state pension and/or homestead bankruptcy exemptions is akin to battening down the hatches and doing lifeboat drills on a ship. Good sea captains do that, too.