How Small Businesses Owners Can Protect Their Personal Assets from Business Debt
If you don’t properly protect your personal assets, which you have worked very hard to accumulate, those assets can be lost very quickly as a result of a judgment or possible bankruptcy.
Fundamental asset protection begins with implementing affordable, solid, reliable strategies and exercising good fiscal and business habits. There are laws on the books affording measures that you can easily implement to provide you with a great deal of protection in the event of a claim or lawsuit.
Bad things happen to good people all the time. You do not necessarily need to be irresponsible or negligent to be sued. To protect what you have, it is imperative to take certain defensive steps making it more difficult for creditors to seize your assets in the event you lose a lawsuit, have a judgment entered against you, or are forced into bankruptcy.
You may think doctors, corporate executives, and those in other litigation-prone professions are the only ones who need to worry about protecting their assets. That is incorrect.
There are many circumstances in which your assets can be attached or garnished including divorce, being on the losing side of a civil lawsuit, or even something like an auto accident. If you have the proper legal tools in place before a lawsuit strikes, you are in a much stronger position to weather the storm.
Key Concepts to Consider for Your Personal Asset Protection
Use Business Entities and Maintaining Them Properly
If you are an entrepreneur, it is essential to separate your personal assets from those of your business. If you neglect to take specific legal steps to create a separate business entity, such as a corporation, limited liability company or limited partnership, a simple business dispute could end up costing you everything you own personally.
Operating a sole proprietorship is not a good choice for your business operations. As a sole proprietorship, your personal assets are completely exposed to a potential lawsuit.
Establishing a business entity, such as an S corporation or limited liability company, is a critical step in the development of your business and the protection of your assets.
Once you have successfully established your business entity, simply keeping the entity’s articles of incorporation or articles of organization in your desk drawer will not be enough to protect you if you are sued.
You must maintain separate bank accounts and checkbooks for your business, use the company name on all documents, title the property used in the business in the name of the company, and, most importantly, maintain good corporate records and log the minutes of your annual meetings.
Failure to maintain consistent and formal standards of record keeping for your business entity could result in a judgment creditor being able to “pierce the corporate veil”.
Use Proper Contracts and Procedures
One of the easiest ways for creditors to pierce the corporate veil and attack your personal assets is if you conduct your business negligently or fraudulently. For example, do not write your own contracts from what you may be able to cut and paste from the internet.
Instead, use proper contracts and procedures in how you conduct business. Use good lease agreements for your rentals, properly title business property and equipment in the company name, keep written subcontractor agreements and contracts on every project.
Do not merely rely on emails for terms in an important relationship, and never ever hire people to work under the table. Only use licensed, bonded, and/or insured professionals to help you in your business operations.
Purchase Appropriate Business Insurance
Insurance is an important part of your business and should be included in your startup budget.
Insurance gives you the ability to take care of an incident in your business and gives plaintiffs another target. Moreover, make sure you get the correct insurance policy.
Owning a rental property versus a professional practice or retail store requires different types of insurance.Find a good agent and always maintain appropriate business insurance to protect your assets.
Consider the Homestead Exemption
One of the most powerful exemptions available is the protection afforded to our individual personal residence, commonly referred to as the homestead exemption.
This is a statutory exemption available in most states that protects a certain amount of the value of a person’s home from a creditor or bankruptcy. The amount of protection you have for your home varies widely from state to state.
In some states, including Texas and Florida, state law protects an unlimited amount of home equity. Other states provide relatively little protection to home equity in the event of bankruptcy.
If your state provides a generous homestead exemption, consider contributing extra principal to mortgage payments to protect those funds. Alternatively, if your state provides a minimal homestead exemption, accelerating mortgage payments or paying down principal may not make sense if you are looking to protect assets from creditors.
Tenancy by the Entirety
If your state allows it, you can title your personal residence as “tenancy by the entirety,” which means if one spouse is sued, the property cannot be attached or bifurcated by the lawsuit.
As tenants by the entirety, both you and your spouse own an indivisible interest in the home. If only one of you is named in a suit, creditors cannot force the other spouse to sell his or her interest in the house, because the interest is indivisible.
Maybe the greatest benefit of this strategy is that it is also statutorily based, meaning you do not have to pay big bucks to implement or maintain the designation. Tenancy by the entirety can apply to real estate, bank accounts and investment accounts.
Simply, make certain that your property is titled correctly, and you can protect your home and possible other assets via this method. If you are married or considering getting married, you should familiarize yourself with how your state handles tenancy by the entirety.
Qualified Retirement Plans
Federal law provides unlimited asset protection to ERISA-qualified retirement plans and up to $1 million in assets in an IRA in the event of bankruptcy. Assets in employer-sponsored plans have unlimited protection from bankruptcy, regardless of whether or not the plan is subject to the Employee Retirement Income Security Act (ERISA).
This includes SEP IRAs, SIMPLE IRAs, defined-benefit and defined-contribution plans, 403(b) and 457 plans, and governmental or church plans under the Internal Revenue Service (IRS) code section 414.
If your state has a generous exemption, consider moving cash you will not need until you reach at least age 59 1/2 into one of these protected entities. Please keep in mind that you will be restricted by an annual contribution limit, which varies depending on the type of retirement plan.
Retirement accounts are excellent vehicles to protect long-term savings and provide substantial tax benefits.
Annuities and Life Insurance
Like the protection of homesteads, the level of protection applied to annuities and life insurance is determined by state law. Some states provide significant protection to annuity balances and to assets in cash value life insurance policies.
For example, Florida provides unlimited protection to these assets, while Oregon provides protection for up to $500 per month in annuity income.
Some protect the cash surrender values of life insurance policies and the proceeds of annuity contracts from attachment, garnishment, or legal process in favor of creditors. Others protect only the beneficiary’s interest to the extent reasonably necessary for support.
Consult a qualified attorney to understand how Annuities and Life Insurance may help you to best insulate your personal assets from creditors.
Asset Protection Trusts
Asset protection trusts offer a way to transfer a portion of your assets into a trust run by an independent trustee. The trust’s assets will be out of the reach of most creditors, and you can receive periodic distributions. These trusts may even allow you to shield the assets for your children.
The requirements for an asset protection trust are:
- It must be irrevocable.
- The trustee must be an individual located in the state, or a bank or trust company licensed in that particular state.
- It must only allow distributions at the trustee’s discretion.
- It must have a spendthrift clause.
Do NOT Wait to Protect Yourself
You must not wait until the lawsuit is imminent before you strategically plan for the protection of your personal assets. If you wait too long, it could be too late to shield your assets.
If you transfer assets after a dispute with a creditor or claimant has arisen (even before a lawsuit is filed), the courts could rule that your transfer of funds into a protected class is a fraudulent conveyance and disallow the transfer, leaving those assets exposed.
If you need qualified legal assistance to understand your personal asset liability exposure, or if you feel it is now time to make some strategic moves to protect your personal assets, please contact the asset protection attorneys at Business Debt Law Group who can provide you with a thorough assessment of your personal liability insulation, exposure and advice concerning a roadmap as to how you may best protect yourself and your family, going forward. Please do not hesitate to call us for assistance.