The Five Principles of Asset Protection
Has anyone ever explained the basics of asset protection and business structures to you?
Let’s go through the 5 Principles of Business Structure and Asset Protection.
We’ll walk through the basics and clearly explain why they these principles are important and how to use them.
The 5 Principles…
1. SEPARATE RISK FROM ASSETS
Business risk should be kept separate from your business and investment assets
When running a business, you have "risk" whenever you enter a business relationship with customers, suppliers/creditors, or employees.
In most cases, if you have a business that owns plant & equipment, the ideal business structure will include 2 entities - a trading entity and a separate asset holding entity.
The asset holding entity should never have business "relationships" with other parties. It can invest money or even lend money back to you or the trading entity.
2. CHOOSE 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 your trading companies (or trustee trading companies if you are running the business through a trust).
The Asset-Holder should not be, or act, or even be seen to be acting as a director of any trading entity. 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 so that if anyone decided to take legal action against you, the Risk-Taker has nothing in their name of value to attack. Where possible, the Family Home should be owned 100% by the Asset-Holder. Of course, the later in life you go into business, the more likely you are to already be holding property in the name of the Risk-Taker. This is just something to keep in mind when you do go to purchase a new property, including a family home.
3. SEPARATE BUSINESS RISKS FROM BUSINESS ASSETS
Establish a business Asset Holding Entity and transfer any Business Names and Plant & Equipment to this new entity.
Establish a written rental agreement to record the rent of the business assets to the Trading Entity.
The business Asset Holding Entity should not have any other relationships with other parties except for the Trading Entity. i.e. holding and renting the plant & equipment to the Trading Entity should be all that it does.
If the trading entity falls over, the assets in the business Asset Holding Entity should be protected, and a new Trading Entity could then be established, with new Agreements entered into to use the assets.
4. DIFFERENT BUSINESSES SHOULD OPERATE FROM SEPARATE ENTITIES
Where you have multiple business ventures, to prevent the possible failure of one business affecting any other business, different businesses (or divisions within a business) should operate from separate business entities.
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.
5. REGULARLY MOVE ALL SURPLUS FUNDS FROM THE “RISK” SIDE TO THE “ASSET” SIDE
Ensure that income from your Trading entity does not remain in the entity as working capital.
If your Trading entity has legal action taken against it, then any cash assets are at risk. Ideally, fully distribute the profits from your Trading entity at least once each quarter, and to provide working capital lend them back by your Asset Holding Trust using a Loan Agreement.
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.
What Next?
We will be looking at this as part of a Structural Review process later in the year for many businesses that have now ‘paid their way’.
Any recommendations I make to you surrounding this will take a variety of factors into consideration like risk, value of assets, the value of Retained Profits in the Trading Entity and the cost verses benefit.
As you would be well aware, my philosophy is for you to have only entities that are of benefit to you – not to saddle you with entities for the sake of having a complicated structure.
If your structure is something you would like us to review sooner rather than later, just let me know.