Asset Protection For The Business Owner

As a business owner, you probably realize that operating and owning a business can be
fraught with pitfalls and risks. Turning a profit isn't enough; you must also protect your
business from claims and lawsuits. Debts and mortgage obligations to third
parties and vendors, claims for damages caused by your employees, product or professional
liability and consumer-protection issues are just some of the risks you must deal with. If
handled improperly, these risks could result in the disastrous loss of both business and
personal assets. Knowing what risks you face and how to minimize or avoid the loss they can
cause can give you the chance to run your business successfully. Read on to find out what
they are.
Why Is Asset Protection Important?
The goal of a comprehensive asset-protection plan is to prevent or significantly reduce risks
by insulating your business and personal assets from the claims of creditors. Unfortunately, if
you're like most small-business owners, you are unaware of all the potential risks that can
harm your business and the options available to protect your business and personal assets. An
asset-protection plan employs legal strategies, put into place before a lawsuit or claim arises,
that can deter a potential claimant or help prevent the seizure of your assets after a judgment.
If you haven't already put your asset-protection plan in place, don't wait - the longer the plan
has been in existence, the stronger it likely will be. (Read Will Insurance Keep Your Business
Safe? to learn how to guard against the loss of skilled workers.)
Strategies used in asset-protection planning include separate legal structures or arrangements,
such as corporations, partnerships and trusts. The structure(s) that will work best for you
depends, in large part, on the kinds of assets you own and the types of creditors most likely to
pursue claims against you.
Claim Types
The following are two general types of claims that can be made against you. For asset
protection, it's important to know the difference.

Internal claims - arise from creditors whose remedy is limited to assets of a

particular entity, such as a corporation. For example, if you have a corporation which
owns a piece of real estate and someone slips and falls on the property owned by the
corporation, the injured party is limited to pursuing the corporation's assets (i.e., the
real estate). This assumes you did not cause the injury.

External claims - are not limited to the assets of the entity, but can extend to your
personal assets as well. For instance, if the same corporation owned a truck which you
negligently drove into a crowd of pedestrians, the injured could not only sue the
corporation but also you and satisfy any judgment from corporate assets as well as
your personal assets.

Asset Types
Knowing the type of claims that can be made will allow you to better plan and protect your
property from seizure and your wages from garnishment. It is also important to understand
which types of assets are more susceptible to claims. So-called dangerous assets, by their
very nature, create a substantial risk of liability. Examples of dangerous assets include rental

real estate, commercial property, business assets, such as tools and equipment, and motor
vehicles. Safe assets, on the other hand, do not promote a high degree of inherent liability.
Ownership of stocks, bonds and individually-owned bank accounts do not incorporate risk by
their very existence.
Understanding the existence of these classes of assets is also very important in assetprotection planning. Safe assets can generally be owned by you individually or by the same
entity since they carry with them a low probability of risk. However, you do not want to
commingle dangerous assets either with other dangerous assets or with safe assets. Keeping
ownership of dangerous assets separate limits exposure of loss to the individual asset.
For example, a medical practice has obvious, inherent risks of liability. But did you know that
if you own the building in which the practice is operated, that property may also be
considered a dangerous asset? If both the practice and building are owned by you or by the
same entity, liability arising from either asset could stretch to and include the other, exposing
both your livelihood and property to risk of loss. (For further reading, check out Don't Get
Sued: Five Steps To Protect Your Company and Protect Your Company From Employee
Lawsuits.)
Types of Asset-Protection Vehicles
Many different strategies have been developed over the years claiming to protect assets.
Some of these plans use long-standing legal entities to carry out their intent, while others are
nefarious and even illegal and promote a money-making scam on the innocent and
uneducated. Some of the more common, legal vehicles used for asset protection include
corporations, partnerships and trusts. (Read The Biggest Stock Scams Of All Time to learn
from others' mistakes.)
Corporations
Corporations are a form of business organization created in accordance with state law. Legal
ownership of the corporation vests in its shareholders, as evidenced by shares of stock.
Generally, each shareholder is entitled to elect a board of directors (B of D) charged with the
overall management of the corporation. The board of directors elects the officers (the
president, secretary and treasurer), who are authorized to conduct the day-to-day business of
the corporation. Many states permit a single individual to serve as sole director and to hold all
of the corporate offices.
There are several types of corporations that are used to protect assets: business or C
corporations, S corporations and limited liability companies (LLCs). The appeal of
corporations as an asset-protection tool lies in the limited liability provided to its officers,
directors and shareholders (principals). Corporate principals have no personal liability for
corporate debts, breaches of contract or personal injuries to third parties caused by the
corporation, employees or agents. While the corporation may be liable or responsible,
a creditor is limited to pursuing only corporate assets to satisfy a claim: the assets of the
corporate principals are not susceptible to claim or seizure for corporate debts. This
protection from personal liability distinguishes the corporation from other entities, such as
partnerships or trusts.
One prominent exception to limited liability is corporate principals relates to providers of
personal services. Personal service liability includes work done for or on behalf of another by
doctors, attorneys, accountants and financial professionals. For example, a doctor who forms

a corporation and works for it as an employee may still be liable for damages attributable to
treatment of a patient even though he was working for the corporation. (For related reading,
see Cover Your Company With Liability Insurance.)
In addition, liability protection offered by a corporation will be available only if the
corporation carries itself as a separate and distinct entity, apart from the individual
shareholders or officers. If a corporation has no significant assets, a creditor can attempt to
prove that the corporation is not acting as a separate and distinct business entity but is the
alter ego of its officers or shareholders. This strategy is called piercing the corporate veil, and
if successfully proven, it allows the creditor to reach beyond the corporation to the assets of
its shareholders. (For more, read Should You Incorporate Your Business?)
S Corporations
An S corporation is similar to a C corporation except that it qualifies for a special IRS
tax election to have corporate profits pass through the business and be taxed only at the
shareholder level. While the liability protection afforded to C corporations generally applies
to S corporations as well, there are additional qualifications the S corporation must meet as to
the number and type of shareholders, how profits and losses may be allocated among
shareholders, and the kinds of stock the company can issue to investors.
Limited Liability Corporations
Due to the added formalities imposed on S corporations, a newer entity has evolved, which
affords similar liability protection to corporate principals as a C corporation and the same
"pass-through" tax treatment of S corporations, but without the formalities and restrictions
associated with an LLC.
General Partnership
A general partnership is an association of two or more persons carrying on a business activity
together. This agreement can be written or oral. As an asset-protection tool, a general
partnership is one of the least-useful arrangements because each partner is personally liable
for all of the debts of the partnership, including debts incurred by other partners on behalf of
the partnership. Any one partner can act on behalf of the other partners with or without their
knowledge and consent.
This feature of unlimited liability contrasts with the limited liability of the owners of a
corporation. Not only is a partner liable for contracts entered into by other partners, but each
partner is also liable for the other partner's negligence. In addition, each partner is personally
liable for the entire amount of any partnership obligation.
Limited Partnership
A limited partnership (LP) is authorized by state law and consists of one or more general
partners and one or more limited partners. The same person can be both a general partner and
a limited partner, as long as there are at least two legal persons or entities, such as a
corporation who are partners in the partnership. The general partner is responsible for the
management of the affairs of the partnership and has unlimited personal liability for all
partnership debts and obligations.
Limited partners have no personal liability for the debts and obligations of the partnership
beyond their contributions to the partnership. Because of this protection, limited partners also
have little control over the day-to-day management of the partnership. If a limited partner

assumes an active role in management, that partner may lose his or her limited liability
protection and be treated as a general partner. This restricted control over the partnership
business diminishes the value of limited-partnership shares.
Trusts
A trust is an agreement between the person creating the trust (referred to as the settler, trustor,
or grantor) and the person responsible for managing the assets of the trust (the trustee). The
trust provides that the grantor will transfer certain assets to the trustee, who will hold and
manage the assets in trust for the benefit of another person, called the beneficiary. A trust
created during the life of the grantor (an inter-vivos trust) is also called a living trust, while a
trust created at the death of the grantor through a will or living trust is referred to as
a testamentary trust.
While trusts have been used in many different asset-protection strategies, there are two basic
types of trusts: revocable and irrevocable. A revocable trust is one in which the grantor
reserves the right to alter the trust by amendment, or to dissolve a part or all of the trust by
revoking it. The grantor has no such rights with an irrevocable trust. It's this precise lack of
control that makes the irrevocable trust a powerful asset-protection tool. You can't be sued for
assets you no longer own or control. (For further reading, see Pick The Perfect
Trust andEstablishing A Revocable Living Trust.)
Selecting the Right Asset-Protection Vehicle
Now that you're familiar with the most common asset-protection structures, let's consider
which vehicles work best to protect particular types of assets.
If you own a professional practice or business, your risk of loss and liability for claims is
particularly high, making this type of business a dangerous asset. Incorporating your business
or practice long has been considered the best way to insulate your personal assets from
liability and seizure resulting from claims against your business. However, the limited
liability company is quickly replacing the standard business or C corporation as the assetprotection entity of choice.
If approved in your state, the LLC offers a more convenient, flexible, efficient and lessexpensive alternative to the C corporation while providing the same level of protection.
Because LLCs are creatures of individual state law, the filing requirements and protections
they offer may differ from state to state. But for the most part, state law essentially separates
the owners of the LLC and their personal assets for liability arising out of LLC activities.
Nevertheless, in many states, certain types of business professionals cannot afford themselves
all of the protections offered by the LLC. Professionals, such as doctors, lawyers, dentists and
psychiatrists, to name a few, can't shield themselves from liability with either an LLC or a
corporation for claims directly arising from their actions or inactions.
If the business entity cannot protect you personally, consider sheltering your personal assets
in other entities, such as a family limited partnership (FLP), a trust or an LLC. Then, even if
you are sued personally, at least some of your personal assets are protected within one or a
combination of these entities, discouraging creditors from pursuing them.

A final note for professional practice or business owners: it is still worth your while to
incorporate either with a C corporation or an LLC. While these business entities may not
protect you from malpractice claims, they will shelter you from financial obligations of the
corporation, unless you personally guarantee the debt. You also may be protected from most
other claims of the business not directly related to your actions as a professional, such as
claims of employees, suppliers, landlords or tenants.
Should You Ever Participate in a General Partnership?
The answer is almost always an unequivocal "no." As a co-partner, you are responsible for all
partnership debts and acts of the partners regardless of your participation or knowledge.
Being part of a general partnership greatly expands the exposure of your personal assets to
claims arising from your business relationship.
If you are part of a general partnership, strongly consider protecting your personal property as
described above. Without some protection, you could lose everything because of your mere
association with the partnership and other partners.
Conclusion
Creating and implementing a comprehensive asset-protection plan involves almost every
aspect of your business. The goal of the plan is to protect your business assets within the
framework of your business operations. Protecting your business is both allowed and
encouraged, using honest, legal concepts and entities where appropriate. Extending these
goals to intentionally deceive other businesses or individual is not asset protection planning it's fraud. Therefore, consider the services of an asset-protection professional, such as an
attorney or financial advisor in developing an asset-protection plan that works best for you.