This post was guest written by a fellow lawyer and friend of mine, Donald Powell of DAP Law.
Donald is a Kentucky estate planning lawyer whose office is in Covington, KY. He serves estate planning clients throughout the bluegrass state.
Additionally, he serves asset protection and tax clients worldwide.
The lynchpin of asset protection vis-à-vis business forms is limited liability, which consists of both outside and inside liability.
Let’s define those two terms.
A business form is a legal person created through statute or common law—for instance, an LLC, a corporation, or a partnership.
Limited liability means that only assets associated with a given threat are subject to losses stemming from that threat.
Inside vs. Outside Liability
Inside liability is the liability that arises from your business activities.
With inside liability, the aim is to protect assets that are not part of the business in question from liabilities arising from that business.
For instance, if someone is hurt on a rental property you own, you would like to limit your liability exposure to the property itself instead of having your non-business assets subject to a lawsuit.
Note: Limited liability does not protect from liability arising from personal torts, even if the alleged tort in question was committed through the business.
In contrast, outside liability is the liability that arises from. . . .well, outside the business.
This will likely be a personal liability, but could also be a liability associated with a separate business.
For example, you would prefer that business assets are difficult to seize as a result of liability arising from a personal automobile accident.
Ensure Limited Liability Remains in PlaceIt is not enough to conduct your business through a business form.
Rather, you must also conduct business in a way that minimizes the chance that a court will pierce (or reverse pierce) the “corporate” veil. This means that limited liability will be set aside.
Note: This terminology is standard, even though the concept applies to non-corporate business forms, such as an LLC.
How do you keep your business and personal affairs separate? This isn’t an exhaustive list, but it’s a good start –
- Avoid commingling funds (both between owner and entities and amongst entities);
- Adequate capitalization;
- Follow formalities;
- Do not treat business assets as personal assets;
- Document voidable transaction analysis to ensure robust defense against any allegation that limited liability was pursued to evade an existing obligation;
- Minimize personal guarantees on business debt (often unavoidable);
- Adequately document transactions amongst owners and entities, which should always be at arms’ length;
- Use an office address separate from your home address and ideally different office addresses for distinct businesses;
- All business forms should have a substantive purpose beyond asset protection;
- Do not inappropriately conceal beneficial (equitable) ownership.
It is a mistake to operate a business without taking advantage of limited liability protection. So, speak to a competent business lawyer about this and other legal issues before starting your business.
Further, operate your business correctly and as a distinct business form to ensure that limited liability is maintained.
Further still, if you are someone with particularly high liability exposure, it may be prudent to speak to an asset protection attorney.
This post is not legal advice and should not be relied upon. Every situation is different, and legal advice needs to take into account your unique circumstances.