Trusts 101 for physicians, part 7: Installment sales trusts

In part seven on our going series on the use of trusts by physicians we examine the use of installment sales trusts and how they can provide sellers of businesses and other assets with vital tax deferment options.

A combination of demographics and economic conditions including taxes, inflation and interest rates have created a near record high number of business sales and exits, including sales of medical and dental practices and other related businesses like labs, surgical centers, and office buildings. Sellers are always looking for the next holy grail of tax planning, and as we have previously warned you, not all the strategies you may be pitched are legal and effective and cross the line from legal tax avoidance and deferment to abusive tax evasion.

In addition to the capital gains tax exposure sellers face at the sale of a business we are worried about several other“good problems” including both the change in your estate planning that may be required and, you guessed it, asset protection for the proceeds of the sale, when you exchanged a recurring income stream produced by a relatively illiquid asset, like a business, building or medical practice in exchange for a large amount of liquid, and exposed, cash.

One proven legal strategy that can help sellers save somewhere between tens of thousands and millions of dollars in taxes is the use of an installment sales trust that one expert I consulted with refers to as an Legacy Installment Trust ™. Attorney Alan Soelberg* is an experienced transactional law attorney in Phoenix that I often work with on my own clients’ exit planning and who provided detail on the strategy for us. Please do note that the use of this strategy for a medical or dental practice (as opposed to labs, medical buildings, ASCs, etc.) is only available in those states that allow non-physician ownership of such practices.

What is a Legacy Installment Trust (LIT)?

The LIT is an irrevocable trust that is established by a third-party Grantor and Trustee prior to the sale of the business and which names third party beneficiaries, like other family members, children etc. who are neither owners of the subject business nor the seller’s owners, members, partners etc. if the seller in the transaction is another business legal entity like an LLC, partnership or S-corp. (all permissible sellers) , and not an individual.

What Are The Steps in a LIT Sale Transaction?

1. First, after the trust is established, the seller “sells” a portion of the business asset and its equity to the LIT. This is an arm’s length transaction for market value.

2. Then the LIT, which has no cash assets prior to the sale, provides the seller with a “note” which guarantees the seller a stream of installment sale payments on specific (and carefully calculated) terms.

3. The LIT then sells the business to a third-party cash buyer and receives the cash proceeds. Those proceeds are then invested, and the principal and investment proceeds are then allocated as required to service the note and make a stream of payments the original seller, allowing them to defer any capital gains tax exposure over the term of the note, a little at a time, as they actually receive the proceeds.

4. Finally, the note held by the seller can also in turn be assigned to a variety of personal asset protection structures available to the seller so that both the original purchase amount and the subsequent income stream are protected from future liability.

5. Using this strategy at the right time, with the right numbers can also create a significant inheritance for the beneficiaries of the trust in an estate tax advantaged way that won’t affect your lifetime estate tax exemption.

As always, nothing in a forum like this can ever be legal advice that is specific to your facts, but for well-advised sellers of high value, highly appreciated assets who are willing to act ahead of the sale, this may be a good tax deferral, estate planning and asset protection strategy. We will continue our examination of the legal use of specific trusts again later this month.

*Full disclosure, Alan is a partner at the law firm I am part of

Ike Devji, JD, has practiced law exclusively in the areas of asset protection, risk management and wealth preservation for the last 16 years. He helps protect a national client base with more than $5 billion in personal assets, including several thousand physicians. He is a contributing author to multiple books for physicians and a frequent medical conference speaker and CME presenter. Learn more at www.ProAssetProtection.com.