Wealth and Asset Protection for the Small Business Owner
We recently covered the basics of asset protection here. This article is to introduce asset protection concepts to Texas small businesses owners. Wealth and asset protection for the small business owner seeks to retain all or a substantial portion of wealth while protecting the owner from creditors’ claims. While there are many goals a small business owner may set from passing on the small business to their children to a consistent monthly income stream, each small business owner must take asset and wealth protection into consideration. Many small businesses are not structured or operating to avoid liability. We will discuss just a few of the first steps you can take as a small business owner to secure your business, wealth, and life.
One of the first steps in small business wealth and asset protection is to separate your personal credit and assets from your business credit and assets. Creditors to your personal wealth can be isolated from your business wealth and vice versa. This helps limit any potential damage from a creditor’s claim against one or the other. Business assets placed within a business entity will be protected from the owner’s personal creditors but vulnerable to business creditors, and likewise for personal assets. In addition to keeping your personal and business assets separate, owners should conduct business as the separate business entity to maintain limited liability. Business formalities exist to protect business owners, forgetting this can easily destroy any wealth and asset protection plan in place.
You will also want to convert as much of your exposed assets into exempt assets as possible. You should pay off your mortgages and other liens on your home property, your homestead. Since Texas does not cap the value of an exempt homestead you can easily convert exposed cash into a protected exempt asset. For example, say John owns a home in Texas worth $400,000 that is subject to a $250,000 mortgage. John’s homestead protection of the $400,000 is ineffective against the mortgage. Now if John uses cash to pay the remainder of the mortgage, he is converting an exposed asset, cash, into a protected exempt asset, his homestead.
While separating your assets, be sure to take note of your goals for each. You may wish to pass on certain personal assets to your children in the future while retaining business assets. Each goal will have unique strategies to accomplish. The longer you can project what your goals are, the more effective a tailored wealth and asset protection strategy can be. Keep in mind Texas’ exempt assets, these are assets that are generally unreachable by your creditors. Texas is considered one of the best states for protecting assets from creditors. Texas exempts these assets from general creditor claims: your homestead (no value cap, but an acreage cap), personal property with a market value of no more than $60,000 for a family or $30,000 for an individual, your car, farming equipment, clothes, pets, life insurance proceeds, current wages, college savings plans, and even up to two horses. A general rule for wealth and asset protection is to never transfer exempt property to a business entity. Statutory asset exemptions are only available to natural persons and not business entities.
Choosing a proper business entity is the next step in a wealth and asset protection plan for the small business owner. We have already discussed what an LLC and a corporation are here and here. Generally the preferred business forms are the corporation and LLC for their limited liability. Both have advantages and disadvantages for the small business owners which are discussed in the articles referenced above. Generally the LLC is the better option for small business owners not concerned with obtaining venture capital or multi-state/national operations. The formation of a corporation is more complex and costly for small businesses. Courts will be less willing to expose a business and owner to unlimited liability to both personal and business creditors with a properly formed limited liability company. As with any asset protection strategy, choosing the best business entity is unique to each owner and their goals.
One popular method of insulating assets from creditors is the use of operating and holding entities. Just as assets within a business entity are vulnerable to business creditors but protected from personal creditors, using two or more business entities can further insulate your assets from creditors. This can be accomplished by creating an operating entity which has the use of but not ownership of assets and a holding entity which actually owns the business’ assets. With this structure a small business owners can eliminate or substantially limit liability for both personal and business debts. The operating entity conducts all of the business activities and bears the greatest risk of loss to creditors. It also contains only a limited amount of assets. The holding entity holds the majority of the assets but is not responsible for the operating entity’s debts.
Since the holding entity conducts limited business activity, it has almost no exposure to liability, insulating the assets from potential creditors. The holding entity then leases the assets (vehicles, land, warehouses, equipment, etc.) to the operating entity. To secure future assets, the holding entity can loan money to the operating entity to buy assets which would be secured by a lien on the asset to the holding entity. It is important to follow the proper business and titling formalities when implementing this strategy to avoid creditors from defeating it.
It is important that your wealth and asset protection strategy offer the most security while retaining flexibility for your small business. Asset protection is meant for the worst case scenario. Small business owners often lack the unlimited resources of big corporations and the smallest judgment could destroy everything an owner has labored for himself and his family. Reidel Law Firm can help you secure your business and wealth without breaking the bank. We offer flat fee small business wealth and asset protection plans. For more information or to schedule your free consultation, fill out the contact form below or call Reidel Law Firm at (832) 510-3292 today.