Almost every financial advisor and wealth expert will tell you that the best way to ensure your financial future is to start your own business. Whether your enterprise is full-time or just a side gig, though, you’re going to incur some expenses to get it up and running — and keep it running.
Most small business owners have to dig into their own pockets to cover their expenses, which can create some problems if the company runs into financial trouble. As the business owner, you’re on the hook for your company’s debts regardless the whether it’s doing well or not. And unless you have taken precautions to protect your personal assets, a business failure could prove devastating to them.
The Best Way to Protect Your Business Assets
By far, the most expedient way to keep your personal assets safe in the event of a business failure is to structure your business properly from the get-go. This means choosing the right type of business entity, usually a limited liability corporation or S-corp.
A limited liability corporation, or LLC, is exactly what it sounds like: It limits the business owner’s liability should the business be the target of a lawsuit, default on a debt, or face bankruptcy. Essentially, under an LLC, business owners do not face any personal liability for the business beyond what they have personally invested in the business or the value of the business, provided that they have not personally guaranteed any debts or acted without authorization or outside of the scope of any business agreements.
An S-Corp is slightly more complex than an LLC, although it offers the same protections. S-Corps are designed for those businesses that have shareholders (unlike LLCs, which are usually sole proprietorships or partnerships) and have a number of restrictions in terms of operations and stock options. In either case, though, filing the paperwork with your state and establishing your business with the correct designation can help protect your personal assets, including your home, vehicles, and savings, in the event your business fails.
Additional Asset Protection
Structuring your business is just one way to keep your personal assets safe when you start a business. You can add additional layers of protection as well, though, to provide more peace of mind.
Carry proper insurance. Depending on the type of business you have, you may be required to carry various types of insurance. Most states, for example, require employers to carry worker’s compensation insurance and general premises liability coverage to cover expenses related to injuries that occur in the business. You may also qualify for general liability coverage to protect your assets in the event of a lawsuit; in some cases, errors and omissions or directors’ and officers’ coverage may also be required or recommended. For example, certain industries, including travel, insurance, and financial advising agencies, require E & O coverage to protect agents against lawsuits.
Avoid personal guarantees. The financial crisis of 2008 took its toll on the credit industry and made it virtually impossible for many small businesses to access credit or loans without some sort of personal collateral to guarantee them. Entrepreneurs, therefore, have used their homes and other assets to guarantee business debts — and if the business fails, they lose them.
In addition, personally guaranteeing debts means that those business debts will be combined with personal debts, which could affect your ability to qualify for a mortgage, educational loan, even additional credit, in the future. A personal guarantee may be the only way to access funds for your business but exhaust all other possibilities first.
Protect your spouse. Some entrepreneurs opt to place personal assets in a spouse’s name in order to separate them from a business. This can be effective but may backfire in the event of a divorce. If you aren’t yet married, a prenuptial agreement that specifies what happens to property — including the business — can protect assets. For couples who are already married, drawing up a separate property agreement can protect a spouse’s assets in the event of a lawsuit or business bankruptcy.
No one wants to think about the possibility of their business failing, but it’s a distinct possibility in today’s volatile economy. Even if the business does well, a single lawsuit can effectively bankrupt an enterprise, so it’s important to consider all of the assets that need protection and take steps to keep them safe. You might still lose money, but you won’t lose everything.