Unexpected things happen in life, and good management is to have a level of preparedness for events even if they seem unlikely today. We are generally quite good at doing this and take out insurance policies on our major assets and ourselves.
It’s not that likely your house will burn down but you still insure it against fire risk. One thing business owners are not so good at though is being prepared for business failure; specifically, understanding and protecting personal assets that may be exposed to a business failure.
There are two parts to assets protection. First, understanding what your personal exposure is if there is a business failure. This is more far-reaching than the duties of directors under the Corporations Act, and may include workplace health and safety laws, Fair Work Act, Franchising Code of Conduct, Competition and Consumer Act, and Environmental Protection Act.
The second part is to understand that, yes, asset protection does have a cost, as does insurance, but with both asset protection and insurance the cost of advice and structure implementation is much lower than doing nothing and losing everything if the risk you are protecting against eventuates.
Many business owners and directors seek professional advice to assist them with their businesses, and even seek advice on business succession planning, but fail to invest in safeguarding their personal assets.
There is a gambling saying: “If you want to be a winner, you have to walk away from the table a winner.” Asset protection is about taking the chips off the table in the good times, so you can still walk away from the table a winner no matter what happens in the bad.
People who tend to worry the most about asset protection are those who have a high risk of being sued, such as doctors. However, the average business owner can also find themselves in a difficult situation so if you have an asset worth protecting, then asset protection should be at very least considered.
How can a business owner safeguard their family home, superannuation and family trust? With the family home, there are three main options – give the majority ownership to a person who is at least risk from a bankruptcy situation or from being sued, such as your spouse. Leaving a little interest in the business owner’s name means they still have some authority over the asset of the family home.
There are some traps with this option, however, so it may not suit everyone. Another way is to borrow against the family home with a charge on the loan over the family home. This would leave little or no equity in the home available to an external party. The problem with this is that when the value of the property rises so does the equity in the property.
The third option is to create a separate entity for the assets that are used by the business such as business premises, and plant and equipment. This might be a trust or a separate company. There are tax issues to consider with both these entities.
With superannuation, funds put into the superannuation fund prior to bankruptcy are protected from creditors unless the business owner makes an unusually large contribution when they know that there is potential for litigation from creditors. Protection also applies to anything purchased with funds in the superannuation fund held prior to bankruptcy, but not funds drawn down prior to bankruptcy.
With a discretionary trust, a beneficiary does not own or have an interest in the property held in the trust. This means that if a beneficiary were to be the subject of a claim, the creditor would have difficulty barging into the trust and obtaining an order affecting the trust property.
A fully discretionary trust, that is, one where there are no default provisions and no appointed default beneficiaries, is the most common trust. With fully discretionary trusts all the beneficiaries have no right or entitlement to any of the assets or benefits of the trust.
The trustee has the absolute discretion to decide who among the beneficiaries will receive what portion of the trust income and/or assets, when they are to receive it, and how they will receive it. This flexibility is a strong point of a discretionary trust. The beneficiaries only have an expectation to be considered by the trustee.
The result of this is that none of the beneficiaries can be said to own an interest in the discretionary trust assets until the trustee has allocated any such interest to the beneficiary. However, as with the family home, there are also several disadvantages from a tax perspective to holding assets in a discretionary trust.
The information in this article is of necessity a brief overview and it is not intended that readers should rely wholly on information contained herein. Advice in this article is general in nature without knowledge of the audience’s circumstances, and professional advice should be sought.
No warranty expressed or implied is given in respect of information provided and, accordingly, no responsibility is taken by the author for any loss resulting from any error or omission contained within this article.