Protection of assets

By Steve Scott, Attorney
Scott Law Firm, PC

Introduction – common claims

Only a lucky few among landlords and property management companies will escape being sued if they are in business for any length of time. Of course, not all lawsuits are successful (anyone who can scrape up the filing fee can file a lawsuit – that doesn’t mean it will be successful). But even if a lawsuit is unsuccessful, the landlord will need to spend time and money defending the lawsuit.

Probably the most serious claims arise from injury (or even death) and property damage caused by allegedly unsafe conditions. As a general proposition, if the landlord is liable to repair or maintain leased premises under any legal theory, the landlord will be liable for personal injuries, death and property damage resulting from failure to maintain the premises in a reasonably safe and habitable condition. To understand a landlord’s liability for repair and maintenance, review our blawg post Landlord’s Repair and Maintenance Liability.

An increasingly common injury claim arises from mold within rental premises. However, mold claims are very difficult for tenants to pursue successfully because they must be prepared to present (a) expert testimony which identifies the type of mold present, and (b) medical testimony which links the specific type of mold to the physical problem alleged (e.g., asthma). Very few tenants are prepared to present such evidence. For more on this subject, see our blawg post Preventing and Defending Mold Claims.

Other claims may arise from the landlord-tenant relationship itself and are often presented as counterclaims to lawsuits filed by landlords. The most common claims of this nature are security deposit claims and wrongful evictions. The only way to guard against security deposit claims is to scrupulously handle security deposits in accordance with the security deposit statute – see our Security Deposits page. Preventing wrongful eviction claims is a matter of remembering that the only legal way to evict a tenant under Missouri law is to file an eviction lawsuit, obtain a judgment for possession, and have that judgment enforced by a sheriff’s deputy; any other method of forcing a tenant to vacate can constitute wrongful eviction (known in the law as “forcible entry and detainer”).

Asset exposure – the basics

For purposes of this discussion, assume we are dealing with an unmarried individual landlord who owns and leases rental properties in his or her own name. Under Missouri law, if a lawsuit judgment is entered against this hypothetical landlord, the law gives the successful claimant several mechanisms to collect the judgment from the landlord’s assets if the landlord does not pay the judgment voluntarily.

One judgment collection mechanism is garnishment. The successful claimant holding a judgment can ask the court to issue documents to garnish bank accounts and wages. Thus, the landlord could find that his or her bank account has been stripped of all funds to apply to the judgment. Or, if the landlord also holds a job, he or she could find that a percentage of earnings is being deducted from every paycheck to apply to the judgment. The amount that can be garnished from paychecks is 10% of the net after withholding taxes if the debtor is a “head of household”; otherwise, the garnishment percentage is 25%. Qualification as a head of household only requires that at least one other person be wholly or partially dependent on the debtor for financial support.

Another judgment collection mechanism is seizure and sale of real and personal property. The claimant holding the judgment can, for example, ask the court to issue an order to the sheriff to seize particular items of personal property and sell them at public sale, with the net proceeds being applied to the judgment. More seriously, the claimant can ask the court to issue an order to the sheriff to seize particular real estate owned by the landlord for public sale, with the net sale proceeds being applied to the judgment.

In our hypothetical situation of an unmarried landlord who owns and leases properties in his or her own name, all of the landlord’s assets are potentially at risk of being seized for application to the judgment – with the exception of certain exemptions granted by statute. Exemptions must be claimed by informing the sheriff when an execution order is served and include:

  • $3,000 worth of household furnishings and goods, wearing apparel, appliances, books, animals, crops or musical instruments held for family, personal or household use.
  • $500 for jewelry.
  • $600 for any other property (“wildcard” exemption – can be added to other exemptions).
  • $1,250 “wildcard” exemption for head of family, plus $350 for each dependent under 18 and/or other dependent determined to be disabled by the Social Security Administration (can be added to other exemptions).
  • $3,000 for implements, professional books or tools of the trade of the judgment debtor or a dependent of the judgment debtor.
  • $3,000 for any one motor vehicle.
  • $5,000 for mobile home used for principal residence which is not on or attached to realty owed in fee by the judgment debtor.
  • Unmatured life insurance policies, including cash value and loan values thereof.
  • Professionally prescribed health aids.
  • Right to receive: Social Security; unemployment compensation; local public assistance benefit; veteran’s benefit; disability, illness or unemployment benefit.
  • $750/month in alimony/maintenance.
  • Right to receive private or public pensions, disability payments, stock bonuses, profit-sharing plan, or death benefit plan.
    m. 90% of any debt, income, salary or wages payable to a head of household (meaning only 10% can be garnished; 25% can be garnished if not head of household).
  • $15,000 for homestead (residence, land and appurtenances).

Due diligence

One form of asset protection is for the landlord to exercise “due diligence” to prevent or at least minimize possible claims that could result in a judgment against the landlord. This can be thought of as the “first line of defense.”

Due diligence with regard to the physical condition of the premises includes making routine inspections to determine whether there are possibly unsafe conditions which need to be corrected and, if so, promptly making those corrections in a workmanlike manner.

Another form of due diligence is to make sure that leasing forms contain appropriate clauses, including:

  • Require the tenant to certify that he has inspected the premises and finds them satisfactory.
  • Require the tenant to promptly report unsatisfactory conditions.
  • Include rules governing proper use of the premises by the tenant.
  • Require the tenant to keep the premises clean and in good order.
  • Require the tenant to maintain smoke detectors, including changing batteries.
  • Exclude liability of the landlord to the tenant for injury or property damage except injury or damage resulting from the landlord “gross or willful” negligence” or intentional acts.
  • Inform tenants that security is not provided and that the tenant is responsible for protecting his own person and property from acts of outsiders.
  • Require that all lawsuits be filed in Boone County to minimize defense expense.
  • Waive jury trial to reduce defense expense.
  • Require the tenant to pay the landlord’s attorney fees if the landlord wins a lawsuit.
  • Allow abandoned property to be disposed of without liability to the tenant.

These lease clauses can help reduce the landlord’s exposure but cannot guarantee that all claims will be precluded.

Liability insurance

Obtaining and maintaining adequate liability insurance is actually a form of due diligence but deserves its own heading because of its importance.

Landlords should work closely with their insurance agents and other insurance advisers to make sure they have liability insurance which:

  • Covers all likely types of claims, consistent with affordability of premiums.
  • Provides sufficient monetary coverage (i.e., the policy limits are high enough to cover anticipated claims – the landlord’s assets can be at risk if a claim results in a judgment exceeding policy limits), again consistent with affordability of premiums.

Some insurers now seek to exclude mold claims and other types of claims in rental housing, or may charge additional premiums to include coverage of such claims.

Liability insurance includes a commitment by the insurance company to pay for an attorney to defend any lawsuit filed which is covered by the policy. Most policies treat the attorney expense as an addition to the policy limits; however, some policies deduct legal expenses from policy limits, so be sure you know what you are getting in this regard. Typically the insurer will select the attorney and you will have no say in who is selected; however, you also have the right to retain your own attorney at your own expense to assist in defending a claim.

WARNING: If a lawsuit is filed against you, you should immediately report the lawsuit to your insurer, provide a copy of the lawsuit to the insurer, and document that you have done so. In fact, if you suspect a claim will be made before a lawsuit is filed, it is a good idea to inform the insurer of the potential claim as soon as you become aware of it. Typically you inform the insurer by giving the information to your agent, but some companies have different procedures, so be sure you know to whom claims must be reported. If you fail to promptly report a claim, and your delay somehow prejudices the insurer’s ability to defend the claim, the insurer may be able to avoid defending the claim and paying any judgment (up to policy limits) entered against you.

Tenancy by the entirety

Another form of asset protection can result from the married status of a landlord. A married couple can own many forms of property, including real estate, bank accounts and motor vehicles, in what is known as a “tenancy by the entirety.”

A tenancy by the entirety can have the effect of protecting assets because a claimant who holds a judgment against only one of the spouses cannot enforce that judgment against any item of property which is owned by both spouses in a tenancy by the entirety.

However, entirety property is subject to judgment enforcement if the claimant obtains a judgment against both spouses. This suggests that, absent other protections, it is a good idea for only one spouse to be actively involved in leasing activities. However, if the rental properties are owned by both spouses in tenancies by the entirety, that fact alone could be enough to allow a judgment to be entered against both spouses, even if only one spouse is active in the rental business, thus possibly exposing at least the property involved in the claim to judgment enforcement. Protecting against a judgment against both spouses, therefore, has more efficacy in conjunction with formation of a separate leasing entity (see the last paragraph in the next section).

Leasing entity

The most common leasing entities formed by landlords are corporations and limited liability companies (LLCs). Corporations used to be more common, but now the vast majority of leasing entities are formed as LLCs because LLCs are less expensive to set up and require minimal ongoing maintenance.

The legal effects of forming a corporation or LLC are the same (although the tax treatment can differ somewhat). A corporation or an LLC is deemed to be a separate “fictional legal person,” capable of conducting business and being sued or suing in its own name. If a rental business is conducted in the form of a corporation or LLC, then only the company’s assets are at risk in the event of a judgment being entered against the company, but the personal assets of the company’s owners (except their investments in the company) are not at risk.

If you decide to form a corporation or LLC, it is recommended that you consult with an accountant on the tax implications and work with an attorney on the details of formation and maintenance. One common problem is that LLCs are often formed by filing Articles of Organization with the Secretary of State but failing to prepare and have the owners sign an “Operating Agreement.” The law requires an Operating Agreement for a valid LLC.

WARNING: Even if a corporation or LLC is formed to operate a rental business, there are some ways in which the company’s owners can be held individually liable for claims made against the company unless the following guidelines are followed:

  • All the corporate or LLC formalities required by statute must be carefully observed. The entity must be properly formed, and it must act in accordance with its governing documents and state statutes. In the case of a corporation, certain annual “maintenance” is required, including filing a registration report with the Secretary of State and maintaining minutes of at least annual meetings of the shareholders and directors. Both corporations and LLCs should maintain written documentation of important decisions by the shareholders, directors, owners, and managers.
  • Corporate and LLC representatives must be careful not to sign documents as individuals or otherwise give the impression that they are acting as individuals rather than as representatives of the company. For example, a proper signature format would be “COMPANY NAME by Name of Representative, Title.” Just signing your name without making it clear that you are signing on behalf of the company can give rise to individual liability.

Some landlords go so far as to form separate LLCs for each property owned, on the theory that this limits the liability claim exposure in a particular case to only the particular property involved. While this approach may have some validity, it can create complications and confusion. Unless you are a detail-oriented person who can keep straight what property is owned by what entity, this approach may cause more harm than good.

Other possible entities that might be formed to own and manage rental properties include trusts and limited partnerships.

If a married couple forms a corporation or LLC to own and manage rental properties, it is highly recommended that only one of the spouses be formally designated as an owner of the company. If this is done, any creditor who is somehow able to “pierce the company veil” and obtain a judgment against the owner of the company will not be able to collect that judgment from assets owned by both spouses in tenancy-by-the-entirety form. The spouse who is not designated as a company owner should have no concern about his or her rights in the event of a marriage dissolution, however, because under Missouri law the company would clearly be treated as “marital property” in a dissolution if it was formed during the marriage.

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