By Stephen J. Dunn
We have all heard horror stories of athletes and entertainers victimized by their financial advisors. To help you from being so victimized I offer the following tips.
1. Trustworthiness paramount. Honesty in all matters is absolutely necessary. Heed the biblical injunction that one who is dishonest in small matters will be dishonest in large matters. If you doubt your advisor’s honesty, dump him.
2. Invest only with advisors backed by a well-established firm. Such firms provide their advisors timely, incisive research. Such firms vet their advisors, and impose compliance standards upon them. Such firms have assets, and the ability to pay a judgment. But be careful of language in an account application purporting to limit the firm’s liability for wrongdoing, or restricting you to non-judicial dispute resolution. Have your attorney review the application before you sign it.
A few years ago hockey great Sergei Federov sued financial advisor Joseph Zada. The lawsuit claimed that Zada “by fraud and deceit worked his way into the confidences of Federov, ” thereby embezzling $43 million from Federov. Zada had been accused of like conduct by many others. That is another point. People who perpetrate such conduct do not do it only once. They do it again and again. It is a matter of character. Sound like a theme?
3. Stay within yourself. You are an athlete, or an entertainer. You are not a business mogul. After research, invest in mutual funds backed by a respected firm. I invest in Vanguard mutual funds. One of the funds is a real estate investment trust. Others invest in NASDAQ stocks. They are up about 20% on the year. That’s about the best I can do. An investment promising substantially more than that would be too good to be true.
We have all heard of Curt Schilling, the great baseball pitcher. From August, 2006 to the end of 2011, he invested $133 million in 38 Studios LLC, his start-up videogame company.The company has since closed its doors, laid off all its employees, and filed for bankruptcy. The company took $75 million of taxpayer money with it. At the time of its demise the company was seeking $8.7 million more in tax credits, and an extension on a $1.12 million payment due on its loan from the State of Rhode Island. Schilling is also being sued personally by Citizens Bank for $2.4 million.
When I heard that Schilling had a start-up videogame company employing 379 people, my reaction was, “Does he have any experience doing that?”
4. Avoid hair-brained schemes, like the latest tax shelter purveyed by national accounting and law firms. It takes the IRS a while to catch up with these, but when it does, it will assess tax, penalties, and interest against each investor. And each investor will incur substantial legal fees defending himself against the IRS action. The tax shelters for which the BDO accounting firm recently submitted to IRS discipline are a prime example.
Trust your instincts. If you are not confident that you understand a scheme and that it is lawful, avoid it.
5. Invest to the extent possible through qualified retirement plans. It is important that you plan for your retirement, the time when you will no longer be able to practice your profession. The best way to provide for your retirement is to contribute to qualified retirement plans, such as a private employer’s 401(k) profit-sharing plans. Contributions to such plans are currently deductible for income tax purposes, and earnings of the plans arenot currently subject to income tax. Beneficiaries are subject to income tax on distributions from these plans as they receive them.
Qualified retirement plans also offer significant non-tax benefits. Assets held in such plans are exempt by Federal law from state-law creditors’ claims. Administrators of such plans are subject to ERISA fiduciary duties. Beneficiaries may enforce those duties in Federal court. Successful beneficiaries may recover attorney fees.
7. Plan your estate. You know not the day or the hour. Planning your estate is important in making sure that your assets pass to the persons you want them to go to at your death. For example, if you are married with children, and you die without having planned your estate, then some of your assets may pass to your children. But you likely intend that all of your assets pass to your surviving spouse, to be used for the benefit of your surviving spouse and children. To accomplish this you need at least a will.
Planning your estate offers other advantages. A competently-planned estate enables you to minimize taxes upon succession to your property, and to defer such taxes for as long as possible.
Further, you can avoid probate by establishing one or more trusts and transferring your assets to them during your lifetime. Probate is an expensive, public proceeding which delays distribution of an estate. It is to be avoided.
Planning your estate offers another important benefit. It forces you (or your representative) to marshal your assets, and confirm that they are properly titled, as between your trust and your spouse’s trust. It also enables you to confirm beneficiary designations on your life insurance policies and retirement plan accounts.
8. Don’t over trust. It is essential that you keep a hand in professionals’ work concerning you. You should not place blind trust in people. One of my clients, whom I shall call Dr. S, needed a business manager for his medical office. Dr. S’ then-attorney recommended a man for the position. Dr. S hired him.
Dr. S acceded to the man’s request to become an authorized signer on Dr. S’ practice checking account. Dr. S did not learn of the embezzlement scheme until the man was tens of thousands of dollars into it. The man issued check after check on Dr. S’ checking account in payment of the his personal obligations, or to cash.
Deep into the embezzlement scheme, the business manager contacted Dr. S’ payroll service company and discontinued the automatic payment of Dr. S’ payroll taxes. The business manager then embezzled the funds that should have been used to pay Dr. S’ practice employment taxes. Dr. S’ employment taxes then went unpaid. Dr. S’ professional limited liability company amassed a substantial employment tax liability, from which the IRS eventually assessed a trust fund recovery penalty personally against Dr. S.
You would say that Dr. S should have had a trusted advisor, such as his attorney, interview and vet anyone being considered for so sensitive a position. But Dr. S hired the man upon the recommendation of his attorney.
Malpractice claim against the attorney? Yes, but the statute of limitations was an issue.
Given that Dr. S hired the man, he should have had someone other than the business manager open his practice mail. Dr. S should have examined his bank statements upon receipt, looking for unauthorized checks.
Dr. S should not have made the business manager an authorized signer on his checking account. Basic internal control would have required Dr. S to divide the functions among different people. Far too much control was concentrated in the business manager. Conditions were ripe for embezzlement. Dr. S should have monitored his practice business affairs. He trusted too much.
At the time Dr. S hired the business manager, the law firm of the attorney recommending the man was also defending him from charges of an embezzlement scheme perpetrated against his previous employer, another medical office. Sound like a theme?
9. Diligence essential in reviewing your bank statements. To hold your bank liable for paying a forged or altered check from your account, you must review your bank statement upon receiving it and promptly notify the bank of the unauthorized item. Moreover, once you receive a bank statement showing payment of a forged or altered check from your account, you must notify the bank of the unauthorized check within a reasonably prompt period, not exceeding 30 days, to hold the bank liable for payment of future unauthorized checks drawn by the same wrongdoer. Sound like a theme?