Protecting personal assets from business-related claims is often overlooked by business owners. In addition, where strategies have been implemented they sometimes fail to be monitored.
When considering asset protection most business owners tend to focus on business and professional insurance products to mitigate risk. However, there are several other strategies that can be used to provide additional degrees of personal asset protection.
Firstly, ensure your business is operating under the most effective legal structure.
It is worthwhile investigating business structures before you commence business and seeking professional advice as to which structure would be best suited. If you are buying into an established business, it would be valuable to have the standing structure reviewed. Our William Buck Hour Report (link) uncovered that 30% of business owners have a fundamental issue with their business structure.
Regarding which business structure to choose, you’ll find there is often a trade-off between the cost to establish a business, taxation outcomes and asset protection. These days it is relatively inexpensive to establish an entity such as a company or trust, which make these viable options for asset protection purposes. The alternative is to operate as a sole trader or as an individual in-partnership. However, this can put your personal assets at risk where they’re in the same name as your business assets
Operating the business through an entity such as a company or trust (with a corporate trustee) provides an enhanced degree of personal asset protection via the corporate veil. However, this structure is not without its challenges. It is important not to accumulate assets such as cash or investments surplus to the working capital requirements of the business, in the entity that also operates the business, as they could come under attack if a claim arises. Having a strategy of regularly declaring and paying out cash as dividends or profit distributions helps to mitigate this, however the trade-off is that these payments will be subject to income tax in the hands the shareholder or beneficiary.
If you are a business owner operating through a company or trust then the Personal Services Income (PSI) rules apply, and income received by the business will be treated as your individual income and need to be declared in your individual tax return. This has essentially the same effect as the dividend or profit distribution above.
Business premises should be considered as an investment separate to the business. To protect the asset it should be owned by a different entity to the one operating the business. In practice it is usually held by a trust or superannuation fund with a formal market value lease agreement in place with the business.
It is important to note that operating through a company or trust does not protect against acts of negligence or fraud. Insolvent trading claims by liquidators against directors may be initiated if a director knowingly incurs company debts which cannot be paid as and when they fall due.
And if cashflow issues arise in the business and it is unable to pay and report superannuation for employees or PAYG Withholding, the Australian Taxation Office can take personal action against directors to recover the unpaid amounts and charge interest and penalties.
A commonly used strategy for married couples to insulate personal assets from potential business claims is to purchase or transfer personal assets such as the family home to the non-risk spouse, i.e. the spouse who is not involved in the business and is not a director of the corporate entity. Caution should be exercised here as any transfers that are made at under-value or to deliberately defeat creditor claims could be subject to claw-back provisions available to liquidators and bankruptcy trustees. Taxation implications, such as income tax and stamp duty (different rules apply for each State), should be considered before transferring assets and it is best to seek advice in this area.
There is no one size fits all bullet-proof approach when it comes to personal asset protection as it depends on your personal goals and circumstances. There are however various strategies and options available to minimise risk to assets. You should always seek professional advice to ensure the best strategy and options are implemented.