Protecting your Primary Residence

Protecting real estate can be challenging because of the fact that real property cannot be physically moved.  For investment real estate, this usually involves an LLC and potentially a holding company. Additionally, stripping equity or using debt provides more protection, and is often advised to decrease the amount of equity and thus the size of the target real estate provides.

Protecting your primary residence presents a special challenge for the Asset Protection Planner. The reason for this is that your primary residence has 3 very unique advantages which are important to maintain:

1. Tax-Free capital gain when you sell your home. (Tax Advantage)
2. Home mortgage interest deduction. (Tax Advantage)
3. Homestead Protection. (Equity Protection)

Because of this, putting your home into an LLC, LP, corporation or other more traditional protection vehicle is usually not advisable, as this would jeopardize these benefits.  

As an alternative, Asset Protection Planners have turned to the Asset Protection Trust to hold the primary residence.  Virtually all Asset Protection Trusts are drafted as "Grantor" Trusts. In most cases the Settlor is also the Beneficiary, and treated as the 'owner' of the trust assets.  Because of this, transferring your home into an asset protection trust allows these 3 primary residence advantages to stay intact.

In additional to being a Grantor Trust (just like a Revocable Living Trust) the Asset Protection Trust is also irrevocable, as well as has "Spendthrift Provisions".  However, it is critical to understand, that in most states, this alone is not going to protect the house directly.  Rather it provides a pathway to protection of the equity.

Much like carrying a parachute in an airplane does not protect the life of the pilot until the further step of jumping out of the plane is taken, the Asset Protection Trust does not automatically protect the equity of a primary residence until that equity is removed and sent to a safe location. 

This may be done in 2 ways. 

1. By stripping the equity through a loan, at least up to the homestead protection amount, or  
2. By selling the home and freeing up the equity.

Once the equity has been removed from the property, the Asset Protection Trust can then fulfill its role and protect the liquid assets by moving them out of the jurisdiction of the court and away from the creditor by putting them in the hands of the Emergency Trustee.

While this process may seem a bit complicated, the preservation of the 3 Primary Residence advantages most often outweighs the work required in the event that the home truly becomes at risk.  This is further augmented by the fact that for most creditors, the primary residence is a particularly unattractive target for the following reasons:

1. Virtually every state have some form of protection built into the home in the form of the homestead exemption.
2. In most states, the creditor cannot directly foreclose on the home and is limited to a lien on the property.  This has the effect of a 'charging order' in a Limited liability Company.

As with virtually all asset protection strategies,  it is rarely a set it and forget it approach.  The legal system is complex and protecting real estate, and particularly the primary residence is a multi-step process.  However, just as a parachute can be the difference between life and death, the asset protection trust can save the equity.  In both cases, that final step may seem drastic and potentially scary, but may become necessary.