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The Dummy Contract

By Tim Berry, JD - Email Editor

Date : October 29, 2009

The other day I had to drive from Phoenix to Las Vegas to attend a conference. While it’s a 5 hour drive, at times I wish it was longer. I load my iPod up with all sorts of audio books and podcasts and to my regret, the trip normally ends during an important part of the book or podcast.

During this particular show, http://twit.tv/211, Mr. Dvorak kept beating up the host of the show, for signing the “Dummy Contract.” That is to say the first contract a publishing company offered, typically one-sided in favor of the publishing company. Mr. Dvorak ranted and raved that publishing companies typically rip off new authors when they present their contracts, because they expect the authors will be excited just to get published, and thus are willing to blindly sign anything, thus the Dummy Contract is presented to these newbies.

The concept of the Dummy Contract doesn’t only apply to book publishers.

Recently I was asked to review a contract for a distribution company. It was almost embarrassing all the one-sided language in the contract. It was obvious that a number of the provisions were there to be throw aways, chips on the negotiations table.

The other side didn’t even blink; they signed the dummy contract.

Let's talk about opening a brokerage account. Years ago I used to be a stockbroker and always chuckled about the information asked on the brokerage account apps. A lot was what I considered personally invasive, which the brokerage firm justified by saying it was a part of the know your customer rule. Hogwash, we could open the account even without that info.

Then there are the terms of the brokerage accounts. Have you actually read your brokerage account agreement? Talk about one-sided. With the typical agreement, you’ve granted them a lien on your Aunt Sandy’s afghan collection.

No harm, no foul? Think again, you might have caused yourself harm by blindly accepting the terms of the brokerage account. In the case of an IRA it could be a massive amount of harm. Under the tax code, any extension of credit between you and your IRA is considered a prohibited transaction. The result of a prohibited transaction is a complete distribution and the immediate taxation of your entire IRA. Recently I requested a letter ruling from the government, as to whether agreeing to grant a brokerage firm a personal guarantee or a lien on personal assets when opening an IRA is considered a prohibited transaction. Yesterday I received a call from the government attorney I was working with saying they will be issuing the ruling this week.

Let’s pause for a moment of reflection. What has just happened to your financial situation if your retirement plan is considered distributed?

First, you now have a massive tax hit. If you signed the bad brokerage agreement 10 years ago, you are facing tons of back taxes, interest and penalties on the festering wound. Don’t get too excited about any statutes of limitation helping you out either, in recent correspondence the IRS has told me they don’t believe any statute of limitation applies to IRAs and discussing the issue could have you labeled as a tax shelter promoter!

Next issue is asset protection. For many of you, your greatest asset is your retirement plan. Thus asset protection isn’t much of a worry, as in a lot of cases those retirement plans are considered exempt assets. What if that plan has been considered distributed just because you signed the dummy contract? If the IRA is considered fully distributed via the tax code that means it is no longer an IRA. If it is no longer an IRA then it is no longer exempt.

Going to file bankruptcy papers so as to avoid cancellation of indebtedness on your upside down homes? You better think again, the account you thought was an IRA is now up for grabs.

See the problem?

Yeah, some of you might say this is merely a theoretical problem as no one is actively looking at the issue. I can assure you the IRS has started a special program to review issues with IRAs, and this is one of the issues they are reviewing. To put it another way the IRS could probably raise a few hundred billion in taxes by going after these distributed IRAs; how long do you think they are going to sit on the sidelines?

Don’t be a dummy. Review all the terms of contracts presented to you and see if you can find the dummy provisions, if they want your business they can make changes. In the case of your IRA, review your IRA application and all of its forms. If you think you might have signed a personal guarantee or granted a lien on any of your personal assets, you need to contact someone, hopefully us, to try and limit the damage that has probably already occurred.

Feel free to email us at info@trustmakers.com or call to discuss your options.

If you would like to discuss the use of trust for you, your family, or even as a marketing tool for your business, give us a call we would love to talk with you about it. Please contact us at info@trustmakers.com

By Tim Berry, JD
TrustMakers.com

 

 

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