With great risk comes great reward…or great loss IF you do not set your business up properly. While many of us realize that going into business for yourself is a risky endeavor, most business owners are so busy managing day-to-day operations, generating sales and revenue, and handling whatever is thrown in front of them, that many lack the time or energy to make sure that the business’s basic structure has been properly organized. Unfortunately, this can be an expensive mistake for many business owners, who do not face the reality of their failure to properly structure the business and insulate and protect their personal assets until they face a lawsuit. There may be nothing more gut wrenching for our business clients than sitting with a summons and complaint on their desk and realizing that they should have been more careful as they were building the business.
The reality is that lawsuits are a common - dare I say a “rite of passage” -for most California business owners. But oh what a costly endeavor they are. And even if you are a business owner lucky enough to say you have not been sued…yet, the reality is that California is an especially litigious jurisdiction. With this in mind, if you are not yet employing asset protection strategies as an entrepreneur, it is time to do so.
Asset protection is a form of strategic planning designed to minimize risk and protect and insulate assets from creditors’ claims and litigation. Careful asset protection can help you retain and sustain the value of the property and accounts you own.
As a business owner, there are numerous strategies you can employ to engage in even the most basic asset protection. Some of these strategies include:
These entities, though simple to create, do not legally protect the business owners’ personal assets whatsoever. This is unlike the registered business structures such as a limited partnership, limited liability company, and the corporation, all of which provide limited liability to the owners. This means that the owners of the business are not personally liable for the company’s debts or other liabilities—for example, if a judgment is obtained in a lawsuit against the business, the creditor cannot look to the owner’s personal assets to satisfy the judgment. A properly established and maintained limited liability business structure restricts liability to assets belonging only to the business. Creating a separate legal entity is one of the first steps every entrepreneur should take to protect personal assets. Subsequent practices like opening a separate business account, complying with legal requirements such as paying state filing fees, and not commingling personal funds with business funds further establish the legal separation between personal assets and business assets.
In these cases, it is critical for the business owner to ensure that he or she keeps the assets of each business completely separate. This requires not only setting up different legal entities for each of the businesses, but also ensuring that each entity incurs separate debts and liabilities and maintains assets in each business’s proper name and endeavor not to ever commingle them. Failure to legally separate your diverse businesses may expose all of your businesses to each business’s creditors if litigation arises and one of your businesses is found liable. As a result, it is important to separate these business interests as soon as possible and to ensure that the documentation, accounting, banking, and record-keeping for each of your businesses reflect the distinction amongst the entities.
Various types of insurance are available to you as an entrepreneur; the types you should obtain depend on the type of business you conduct and your unique preferences. Commercial general liability insurance, employment practices liability insurance, and business interruption insurance are just a few of the many options that you should consider. But that is not all, you also need to review the insurance policies diligently each year to ensure that the coverage is adequate to cover the value of your assets and your potential for liability. Remember, if you doubled your revenue in one year to the next, you probably also greatly increased your exposure to liability.
For business owners, one of the most common types of trust we use for asset protection purposes is an irrevocable trust because the business owner, by virtue of gifting the assets to the trustee of the irrevocable trust, relinquishes his or her ownership and control of the business assets, thereby removing the assets from the business owner’s personal name and eliminating the asset as a potential source of funds to satisfy a creditor or judgment. The irrevocable trust functions differently than the more common revocable living trust, because the business owner, who is typically also the trustee of the revocable living trust, may easily change the terms of the revocable trust at any time prior to his or her death and is still treated as the owner of the property held in the trust. This is dissimilar to an irrevocable trust where the owner no longer exercises control of the assets. Entrepreneurs interested in asset protection should strongly consider setting up an irrevocable trust early in their business development. If a trust is created after litigation arises, the trust may be viewed with suspicion by a court as a tool of liability avoidance and can actually be set aside in certain circumstances.
The moral of the story is that we are here for you and it is NEVER too late to make sure your business is structured properly. Protecting and preserving your wealth as an entrepreneur will not happen on its own - it requires involved strategic planning and executing on the plan with intention. Contact us so we can help protect you today.