December 2010 - Whether the business you operate scratches out a basic living for you and yours and employs only yourself, or it sustains the livelihood of several employees, you would be well-advised to analyze your business’ vulnerability to litigation claims from outside your company. After you complete your analysis, you may be able to institute some asset protection strategies to reduce the occurrence and impact of such claims.
You may never completely insulate your business from all claims, but there are steps you can take to reduce the risk of litigation from third parties.
(Note: Although there are also risks of claims coming from within your company – i.e., from employees – such potential claims are not addressed here. Another important consideration is to reduce the likelihood and/or scope of collection by a claimant against your business, which will be covered in a different article.)
TO REDUCE THE LIKELIHOOD OF A CLAIM, CREATE AN UNATTRACTIVE TARGET
Make sure that your business operations are all conducted through the proper entity, so that you do not unnecessarily expose your personal assets to a business creditor’s claim. All contracts should reflect the entity name and your signature in your entity capacity. Any potential claimant under a contract with the entity will be put on notice that any claim against the entity will not necessarily give them recourse against your personal assets.
Also, if you operate an entity that engages in a variety of different but related activities, consider creating a main entity that is the sole member of various subsidiary limited liability companies – one for each business activity.
For example, your business primarily sells widgets, but it also services widgets and sells widget parts and supplies. It may also want to diversify into other related activities. In this example, member(s) of “Widget Holdings, LLC” would be the individual owner(s) of the business. There would be a separate LLC for selling the widgets (“Widget Sales, LLC”), another for servicing widgets ( “Widget Service, LLC”), another for selling parts and supplies (you guessed it: “Widget Parts and Supplies, LLC”) and so on for any other different but related activity. Widget Holdings, LLC would be the sole member of each of the subsidiary LLCs.
Under this structure, a potential claimant against one of the LLCs may not have recourse against any of the other LLCs or their assets, and your business loses some of its appeal as a litigation target.
Finally, you can hold ownership title to any valuable assets, such as machinery or other equipment in the name of Widget Holdings, LLC, which then leases the equipment to the LLC that uses it. This further reduces (a) the exposure of any equity in such equipment to a claim against the using LLC and (b) the attractiveness of your business as a target for a potential claimant.
This strategy is not intended to be taken as applicable or advisable in every business operation. Many factors must be considered in devising and implementing a structural framework for your business, and those factors may dictate a variation of this strategy or a completely different plan.
Finally, this is not “one size fits all” solution; it should be considered in your efforts to make your business a less attractive target for potential claimants. The less attractive your business is as a target, the less likely a potential claimant is to invest in the financial and energy drain of pursuing a claim against you.