Does Your Business Structure Protect Your Personal Assets?

When businesses flourish, it’s exciting and often worth the effort you put into them. A strong business of any size can help finance your future and be a legacy you can leave to your family.

Even when businesses succeed long-term, however, they can create risks for their owners. Some people use trusts, Family Limited Partnerships, or Family Limited Liability Companies to try to safeguard business assets, including brands, stocks, or property. It’s also important to consider how to safeguard your personal assets if you’re a business owner.

Every business venture comes with risks. Statistically, 20 percent of businesses fail within the first two years and around 50 percent don’t make it past the five-year mark. SHould a business fail, the owner is usually facing personal liability. Even successful business owners face significant liability – accidents, employee errors and contractual liability may cause a business owner to lose everything. But when a business is properly structured, the owner’s personal liability can be limited and often eliminated.

How Does a Business Put Personal Assets at Risk?

Your personal assets might be at risk if your business is unable to pay its bills or is sued by another party.

Here are a few examples of scenarios that might put a business owner’s assets at risk:

  • The business is a sole proprietorship, which means there aren’t many boundaries between the business as an entity and the person who owns it
  • A business owner or executive signs a contract agreeing to personally guarantee a debt
  • A business and its owner are sued due to a liability or malpractice issue

While the outcome of each scenario depends on factors such as business structure, it’s not impossible in some cases that a person could lose their home, personal savings, or other assets because of a business issue.

How Can the Right Business Structure Help?

There are ways to protect your personal assets from creditors, family members, and others. There are also options for protecting those assets from your own business. One of the most important is to choose a business structure that’s right for your business and personal needs.

Sole Proprietorship

Many small businesses start as sole proprietorships because they are considered by many to be the easiest businesses to launch. The paperwork is minimal. But a Sole Proprietorship offers no liability protection.

In this structure, there isn’t a wholly separate business entity. You are the business, and that means that your personal and business assets may be treated similarly. A Sole Proprietorship may be owned only by one person – it can not have a co-owner. This means that without proper advance planning, the business and all of its assets are subject to court proceeding called a Conservatorship if you become incapacitated and probate at your death. Court proceedings like a conservatorship or probate can take months for the right person to get authority to continue the business or have access to the business assets, like bank accounts. This means that a spouse or other family members won’t be able to use the business assets, even for things like payroll. So none of your employees (including family members) can get paid! And remember, if you enter into a debt for your business, the creditor might be able to come after your personal assets to settle the debt if you don’t pay it.

Partnership

General partnerships can also be very informal. When two or more people go into business together they are forming a general partnership. While no formal partnership agreement is required (because the government has written one for you), most partners choose to create a formal partnership agreement to outline the rules for the business owners. General Partnerships do not offer asset protection – in fact they create more liability than sole proprietorships because each partner is totally responsible for business related actions of the other partner(s). If one partner causes an injury in the course of the business, the injured person may sue both general partners to recover damages.

Limited Partnerships (LPs) are also a type of partnership. A limited partnership requires a formal agreement and registering with the state or states in which the limited partnership does business.

A limited partnership requires a that there be at least one General Partner who will have personal liability for the business. There are also Limited Partners, whose liability is limited to the investment made in the business. That means they won’t be held personally responsible for debts that the partnership as a business entity holds. They also may not be held responsible for actions taken by the general or other limited partners. Limited Partnerships are often used as an estate planning tool within families who want to transfer an on-going business or investment portfolio to the next generation and at the same time teach investment and management strategies. This type of LP is called a Family Limited Partnership (FLP). FLPs have a number of advantages in tax planning and asset protection planning.

However, not all partners have the same level of limited liability and not all partnerships are created equally. The level of protection you have depends on the details of your partnership agreement.

Corporation

A corporation provides significant protection for personal assets because it creates a “wall” between you, the person, and your business (and its liabilities) by creating a new and separate entity. A corporation requires significant legal compliance, which makes it a poor choice for business owners who want to concentrate on their business and not the legalities of keeping their corporation compliant. For example, corporations require annual filings (paperwork and fees) with every state in which the corporation does business. Additionally, corporations are required to document meetings (at least an annual meeting), elections of directors and corporate officers, like a President, Secretary and Treasurer, and creating of corporate resolutions, like a resolution to open a bank account for the company’s business account. When the owner(s) of a corporation fail to keep proper books a records, the protections offered by a corporate entity may no longer exist. This allows creditors to “Pierce the Corporate Veil” which permits a creditor to attach the personal assets of the business owner. Additionally, there are tax considerations when you start your corporation.

Corporate entities may choose between C-Corporation and S-corporation tax status. Which tax status is best depends on a variety of considerations which are unique to each business.

Limited Liability Company (LLC)

For many business owners a Limited Liability Company (LLC) may be the best choice because it provides more asset protection than a sole proprietorship or a partnership but without the all legal formalities of a corporation. LLCs require an Operating Agreement and annual filings with the state or states in which your business is organized and will operate. For income tax purposes an LLCs may be setup as (1) a disregarded entity, which means the income and expenses of the business are reported on your personal income tax return – much like a sole proprietorship – but this option is only available when there is only one owner of the LLC; (2) When there is more than one owner of an LLC the business may choose Partnership tax status – so your business will file partnership return which is helpful for real estate related businesses; (3) C-Corporation status so your business can take advantage of the 21% corporate income tax rate; and (4) S-Corporation status. With any business, if you do something wrong, like injure someone in the course of your business, you continue to have personal liability. However if an employee injures someone while on the job, your investment in the business may be at risk, but you probably won’t see your home or personal savings put at risk.

LLCs can also be used as a Family Limited Liability Company (FLLC) and offer many of the same benefits as a Family Limited Partnership, but without the need of a General Partner (and the on-going liability a General Partner must have). Today many planners prefer FLLCs as stronger asset protection vehicle.

Choice of Entity Chart – Some of the “Pros & Cons”

Business Entity Pros Cons
Sole Proprietorship
  • Simplicity: Easy setup and management.
  • Direct Control: Full decision-making authority.
  • Tax Simplicity: Profits and losses on personal tax return.
  • Unlimited Personal Liability: Personal assets at risk for business debts.
  • Limited Credibility: May seem less trustworthy.
General Partnership
  • Shared Responsibility: Partners contribute and share duties.
  • Tax Benefits: Pass-through taxation to partners.
  • Unlimited Personal Liability: Each partner liable for all partnership obligations.
  • Internal Conflicts: Disagreements among partners can hinder decisions.
Limited Partnership
  • Limited Liability for Limited Partners: Limited partners have liability limited to their investment.
  • Expertise and Capital: Limited partners contribute without operational involvement.
  • General Partner Liability: General partners personally liable for partnership debts.
  • Complexity: Requires more formalities and documentation.
Corporation
  • Limited Liability: Shareholders’ personal assets shielded from business liabilities.
  • Perpetual Existence: Continues to exist despite ownership changes.
  • Credibility: High level of credibility in the business world.
  • Double Taxation: C Corporations may face double taxation on profits.
  • S-Corp Taxation available by election
  • Complexity and Formalities: Extensive administrative requirements.
Limited Liability Company (LLC)
  • Flexible Taxation: Choose taxation as a disregarded entity, corporation (C or S), or partnership.
  • Limited Liability: Members’ personal assets protected from business liabilities.
  • Simplicity: Fewer formalities than corporations.
  • State-Dependent Rules: Regulations vary by state, affecting legal protections.
  • Limited Perpetual Existence: LLCs may dissolve upon member departure.

Safeguard Your Assets for the Future With Help From Legal Professionals

While limited liability companies (LLCs) tend to provide the widest lines between personal and business assets, the best structure for protecting your assets depends on your situation. There’s no single right answer as to which business structure is the right choice. Consulting with an asset-protection and estate-planning professional can help you understand what factors to consider and what options might be right in your case. 

An attorney experienced in trusts, Family Limited Liability Companies, Family Limited Partnerships, and other legal asset protection tools can do more than safeguard your wealth from business risks. They can help you plan for the future of yourself and your family by:

  • Supporting you as you create a plan to leave a legacy for your children and other heirs
  • Providing guidance in estate planning so you know what options might be right for you and how your wishes can be protected
  • Creating trusts and other legal structures to protect your assets during your lifetime
  • Administering your trust or estate in the future to ensure your preferences are upheld

If you have a business — or are planning to start one — and want to create a financially secure foundation for yourself before you begin, consider working with the team at the Law Offices of Boyd & Boyd, P.C. We can help you understand which personal assets might be at risk and how to protect them. Give us a call at 508-444-9688 to make an appointment to discuss our services.