As a small business owner, you may be willing to take risks that the average person might not. And it can feel like your personal and business life often overlap. But the last thing you want is for your business to negatively impact you personally. It’s important to know how to protect your personal assets from your business debt, especially MCA debt.
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Here’s what you should know about keeping business and personal assets separate. Plus, the steps you can take to protect yourself from creditors freezing your assets and interrupting your business.
Personal Assets vs. Business Assets
An asset is essentially anything of value that can be converted into cash. Assets can be tangible or intangible, and they are typically used to produce goods, provide services, generate income, or increase an entity’s overall value.
Personal assets and business assets are two distinct categories that serve different purposes, and are treated differently for tax and legal purposes.
Examples of personal assets include:
- Primary residence
- Investment real estate
- Vehicles for personal use
- Savings and checking accounts
- Personal investments (stocks, bonds, mutual funds)
- Personal property (clothing, furniture, electronics, etc.)
- Retirement accounts (401(k), IRA, etc.)
Examples of business assets include:
- Office buildings, warehouses, or retail spaces
- Company vehicles or equipment
- Inventory and raw materials
- Intellectual property (patents, trademarks, copyrights)
- Business bank accounts and investments
- Accounts receivable
Key takeaways: An asset is something valuable that can be converted to cash. There are both personal assets (primary home, personal vehicle, retirement accounts) and business assets (commercial real estate, equipment, inventory), which are treated differently for tax and legal purposes.
How to Protect Your Personal Assets From Your Business Debt
So how can you ensure your personal assets are protected against being seized if your business defaults on a business loan, MCA debt, credit card debt, etc. — where the business gets sued or files for bankruptcy? Here are a few steps you can take.
Choose the Right Business Structure
Selecting the appropriate type of business structure is crucial for personal asset protection. For example, operating as a sole proprietorship or a partnership isn’t the best choice, since these structures leave your personal assets vulnerable to potential lawsuits.
A limited liability company (LLC), on the other hand, can provide much more protection. An LLC combines features of a partnership and a corporation, and provides limited liability protection to its owners (known as members) of the business. In most cases, the members’ personal assets are not at risk for the company’s debts or obligations — except in certain cases such as fraud, illegal activities, or when they fail to maintain proper separation between personal and business finances.
Maintain ‘the Corporate Veil’
Once you set up your business as a separate entity, creditors generally can’t go after your personal assets if the business defaults on a loan, declares bankruptcy, gets sued, etc. (at least, in theory). This is a concept known as “the corporate veil.”
However, this protection is not absolute and there are exceptions where your personal assets could be at risk. In certain situations, courts may “pierce the corporate veil” and hold owners or shareholders personally liable for the company’s debts or obligations. This typically happens when the owners have abused the corporate structure, engaged in fraud, or failed to maintain the legal separation between personal and business finances.
That means simply setting up the appropriate business structure isn’t enough. You also need to maintain completely separate personal and business finances. You should have bank accounts and credit cards that are used exclusively for business transactions. Additionally, it is never advisable to use business funds to cover personal expenses, and vice versa. It’s also crucial to maintain detailed business records.
Get the Right Contracts in Place
Writing an agreement on a cocktail napkin or copying and pasting a contract template from the internet is a surefire way to end up with a hole in the corporate veil.
You need to ensure you have professionally crafted, legally binding contracts in place for clients, suppliers, partners, etc. to reduce the risk of disputes or misunderstandings. Also, avoid paying people “under the table” or relying on handshake agreements where you have no real proof of the terms. In addition, you want to have physical copies of any agreements you signed.
Be Cautious With Personal Guarantees (PGs)
A personal guarantee on a business loan is a legally binding commitment, usually made by the business owner, to repay the loan if the business is unable to meet its financial obligations. It’s a common requirement for small businesses or startups that might not have a strong credit history or enough collateral.
PGs are especially common in the merchant cash advance world. For example, MCAs often require personal guarantees when funding small businesses.
By signing a PG, you agree to be personally responsible for repaying the loan. Which means your personal assets, such as your home, car, or savings, can be seized if the business defaults. So it’s best to avoid financing agreements that require a personal guarantee if possible. Most agreements in business are not negotiable in this aspect.
Obtain Adequate Insurance
Several types of insurance can also help protect a business owner’s personal assets by providing coverage for potential risks, liabilities, and unexpected events. Some examples of business insurance that can safeguard personal assets include:
- General liability insurance: This covers claims related to third-party bodily injury, property damage, and advertising injury. It can protect a business owner from potential lawsuits and financial losses arising from accidents, negligence, or injuries caused by their business operations.
- Business interruption insurance: This insurance provides financial support if a business has to temporarily close due to a covered event, like a natural disaster. It can help cover ongoing expenses, such as rent or employee salaries, as well as protect the business owner’s personal assets from being used to cover these costs.
- Umbrella insurance: This is an additional layer of liability coverage that extends the limits of existing policies, like general liability or commercial auto insurance. It can protect your personal assets by offering extra financial protection in case of large claims or lawsuits.
- Directors and officers (D&O) insurance: This covers the personal liability of directors and officers for actions taken on behalf of the company. It can protect your personal assets if you’re sued for actions related to your role.
Consider Asset Protection Strategies
Divvying your assets can provide an additional legal layer between personal assets and potential business creditors. Doing so can be beneficial in some cases. However, it is important to ensure that this division complies with all relevant laws and regulations. For example, you might consider putting certain assets in your spouse’s name. Or setting up an irrevocable trust that owns the asset instead.
Consult With Professionals
As a business owner, you might wear a lot of hats day-to-day. For legal or financial inquiries, seeking an experienced debt help attorney or professional advice is a good idea. You don’t have to handle these matters alone. When uncertain, consult a business financial attorney, accountant, or advisor. They can guide you on the best ways to protect your personal assets and manage your business finances.
Key takeaways: There are many ways to protect your personal assets from your business. It’s important to choose the right business structure, maintain separate personal and business finances, have contracts in place, buy insurance, and avoid personal guarantees. When in doubt, consult with a professional.
Tayne Law Group is a team of experienced attorneys and staff who know how to protect the rights of both consumers and business owners with debt related issues. Tayne Law ensures that debt issues are resolved in the best way possible. If you have concerns about delinquent debt, business debts, MCAs, UCC liens, accounts in collections, threats from debt collectors, or even a lawsuit, get in touch with our law firm and find out how we can help. Solutions are customized to your specific situation and may help you navigate the tricky legal process. Call us for a free phone consultation at 866-890-7337 or fill out our short contact form. We never share or sell your information, and all conversations are confidential.