asset protection 101
Has anyone ever explained the basics of asset protection and business structures?
Let’s go through the basics of asset protection and business structure, and clearly explain with the use of some diagrams.
You’ll hopefully remember this diagram for the rest of your life and any changes to your business or personal situation can be easily adopted.
What is Asset Protection?
Asset protection” is a general term for any planning carried out to reduce a potential creditor’s ability to access assets or value.
This planning might involve:
- Isolating assets or value from risk (e.g. housing passive income producing assets in separate structures to a business structure).
- Segmenting multiple sources of risk, so that liability or exposure from one activity does not contaminate or put at risk assets in unrelated entities (e.g. carrying on separate businesses in separate structures).
- Limiting the number and value of assets held by “at risk” individuals (e.g. transferring the legal ownership of valuable assets from at risk individuals to lower risk entities).
A successful outcome of asset protection planning might include the ability for at risk individuals and their families to control or benefit from assets without legally owning them. The consequence is that if the at-risk individual becomes subject to liabilities or claims from creditors, those assets would not be available to satisfy them – even if a creditor is a successful litigant.
Risk in Business
“I don’t earn much and the chances of being sued are low”
Risk is risk. If you are running a business there is risk. Risk is not related to how much money you are making from your business. But you have to weigh up the cost of operating out of business structures like trusts. These factors suggest you need a company as trustee of a family trust or a company as trustee of a unit trust:
- risk of being sued (do not kid yourself, every business suffers this risk)
- assets in your own name
The 5 Principles of Asset Protection for Business Owners
The 1st and 2nd principles apply to all businesses, and the 3rd, 4th and 5th principles start to apply as your business and family wealth grows.
Separate Risk from Assets
- Business risks should be kept separate from business and investment assets.
- When running a business, you have “risks” whenever you enter into a business or a contractual relationship – with customers, suppliers/creditors, and employees.
- In most cases, the minimum business structure required will include a trading entity and a separate Asset Holding Entity. We call this a “Level One” Structure.
- The Asset Holding Entity should never have business “relationships” – it should only invest or loan funds to related entities.
Chose a “Risk-Taker” and an “Asset-Holder”
- Within a Family Group, you should choose one individual to be a “Risk-Taker” and another individual to be an “Asset-Holder”.
- The Risk-Taker should be the main person involved in your business and therefore should be the director of any trading companies (or trustee trading companies).
- The Asset-Holder should not be, or act, or seen to be acting as a director of any trading companies. The Asset-Holder should be “in control” (as a director, trustee and shareholder) of any Asset Holding Entities.
- Where possible, the Risk-Taker should not own any assets in their individual name. The Risk-Taker should be an “unattractive” target to take legal action against. In most cases, the Family Home should be owned 100% by the Asset-Holder
Separate Business Risks from Business Assets
- Establish a business Asset Holding Entity (separate from your personal Asset Holding Entity) and transfer all Intellectual property (IP), Trademarks, Patents, Logos, Business Names, Plant & Equipment etc. to this new entity.
- Establish a License Agreement to License the use of all IP from the business Asset Holding Entity to the Trading Entity, and a Service Agreement / Rental Agreement to record the lease / rent of other business assets.
- The business Asset Holding Entity should not have any other relationships with other parties except for the Trading Entity.
- If the Trading Entity fails, the assets in the business Asset Holding Entity should be protected, and a new Trading Entity could then be established, and new Agreements could be entered into to use the assets.
Different Businesses Should Operate from Separate Entities
- To prevent the possible failure of one business venture affecting any other business ventures, different businesses (or divisions within a business) should operate from separate business entities.
- As an example, if water leaks into a submarine, the compartment can be “locked-off” to prevent water getting into other compartments and sinking the submarine. In the same way, if problems develop within a business (it fails, legal action is taken against it, etc), it should be kept separate from other successful business / divisions so that these can continue.
Regularly Move all Surplus Funds from the “Risk” Side to the “Asset” Side.
- Ensure that income and retained profits in your Trading Entity does not remain in the entity as working capital.
- If your Trading Entity has legal action taken against it, then any retained profits are at risk. Instead, fully distribute the profits from your Trading Entity at least once each quarter, and to provide working capital you could lend them back by your Asset Holding Entity using a process known as PPSR Loan Protection (discussed later in this document).
- Ensure that any Trading Entities have the minimum of assets (small amount of cash, debtors and stock only), and that no loans remain owing from individuals or related entities to the Trading Entity.
Asset Protection for You
Effective asset protection is all about strategic planning for the future in a manner which delivers maximum asset control, taxation flexibility and protection of your hard-earned assets.
Our strategies quarantine personal assets from potential risks that you may face now or in the future. Implementing this protection also preserves your assets once they are passed onto your next generation.
The key steps you need to take are to:
- Identify the risk (litigation claims, for example).
- Isolate the risk (implement structures to remove the asset from the risk situation).
- Manage the risk (revise your structures and strategies periodically to ensure they fit with any changes in your circumstances).
All asset protection strategies need to take into consideration the effects of the clawback provisions in Bankruptcy and Corporations Legislation. Very little can be done if you wait until financial hardship or a Will challenge has commenced.
Within a family group, you should choose one individual to have the role of the “Risk-Taker” and another individual to have a role as the “Asset-Holder”. The Risk-Taker should be the main person involved in your business and therefore should be the director of any trading Companies (or trustee trading companies).
The Asset-Holder should not be, or act, or seen to be acting as a director of any trading companies. The Asset-Holder should be “in control” (as a director, trustee and shareholder) of any Asset Holding Entities. Where possible, the Risk-Taker should not own any assets in their individual name. The Risk-Taker should be an “unattractive” target to take legal action against. In most cases, the family home should be owned 100% by the Asset-Holder.
Limiting Liability in your Business Structure
The best time to consider Asset Protection is at a business start-up. The type of entity, where it is formed and how it is financed impacts the security of your personal and business assets. Minimising income, CGT and death taxes are also forms of asset protection (here it is the government, not some creditor, who goes after your wealth).
A single person or couple:
* build a corporate trustee company to be the trustee of your family trust
* build a company
* build a Family Trust where the company is the trustee of the Family Trust
Two or more families, e.g. brother and sister, or two unrelated persons
* build a company and a Unit Trust – the company is the trustee of the Unit Trust. The Unit Trust holds the business assets
* build a Family Trust for each Unit Holder. The Units are held in each Family Trust
Our director, Shannon, is a SAPEPAA (Succession, Asset Protection, Estate Planning Accredited Adviser) and can help you protect your hard earned wealth. Contact us today to get started.