Owning a business can have great rewards, but also great risk. Learn more about how to protect those rewards.
Along with the rewards of business ownership come the risks – including the risk to personal assets (wealth, property, etc.) should someone bring an action against your business. Insurances, diversification, smart management and good hiring are all ways to protect your professional assets, but it’s also imperative to understand the ways in which you can protect your other assets as well.
Dig a Moat
As far back as Babylon and early Egypt, moats – either dry or filled with water – have been used as preliminary lines of defense. And like the ancient physical moats, a virtual moat – comprising legal instruments specifically designed to provide some defense for your personal assets – can be equally formidable.
While there isn’t a single instrument that can be used to create a legal moat around personal assets, there are several that can be deployed together, along with awareness and smart thinking, to create the desired protective effect. Here’s what we mean.
Breaking Ground on Your Moat
Begin by separating your personal world from your professional one by making your business a standalone company. This includes choosing the type of entity your business will be; it matters.
One of the simplest – and most popular – is a sole proprietorship, but that doesn't provide any liability protections. Owners are liable for any company debts, judgments and lawsuits, and creditors can lay claim to both personal and business assets. Likewise, a general partnership holds all members of the partnership equally liable for claims.
For more rigorous protection of personal assets, business owners should consider the primary benefits of an S or C corporation or a limited liability company (LLC). In an S corporation, shareholders can be held liable only for the money they invest in the business, and creditors are unable to seize personal assets in the event of a lawsuit or other loss. In a C corporation or LLC, there is limited legal liability for directors, officers, workers and shareholders.
In any case, have all the proper corporate documents drawn by a qualified attorney and readily available. Also, make sure you keep up with annual maintenance such as paying the required fees to the state, holding mandatory meetings and keeping minutes. This way, if anything is ever called into question, the business is viewed as a compliant corporate citizen. To further separate your personal life from your business, maintain separate financial accounts for your business and use the company name on all documents.
Widen the Moat
If your corporation owns property, you can add a second layer of separation between your personal assets and anyone seeking damages from an injury that occurs on the property by having the property owned by a separate LLC. Also, make sure the entity has a written procedure in place for taking care of hazards when they are identified. Be sure to consult an attorney to determine if a strategy like this is right for you.
Deepen the Moat with Insurance
Once a corporation is established, add more depth to the moat with insurance. Rather than targeting the assets of the business, a plaintiff seeking damages in an incident can pursue the money available through insurance.
Before purchasing insurance, however, make sure you get the right kind – insurance type varies depending on whether you rent property, own a rental property, or operate a professional practice or retail space. Make sure to work with your advisor and a knowledgeable insurance agent who can advise you on your options and what coverage you may need. Once insurance is in place, commit to an annual review to make sure your insurance keeps pace with your growing business.
Don’t Push Boundaries
Having a corporation in place can protect personal assets from business liabilities. But there are missteps that can strain this barrier. Here are ways to avoid them:
Maintain Your Moat
Once established, your moat can help provide years of protection while you grow your business. But make sure you take the proper steps and work with knowledgeable professionals, as we’ve discussed, to keep it in shape and securely in place between your personal assets and those who might bring a legal action against your business.
Articles provided by Raymond James.
Diversification does not guarantee a profit nor protect against a loss. Raymond James advisors do not provide tax and legal advice.
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