INTRO: In Part One of this series, we started to explore how you should consider the limited liability benefits of forming a business entity – especially if you own any investment property or small businesses. What if someone who prudently owns his business or property in a LLC or corporation is sued and the claim isn’t covered by insurance? Here’s what can be done.
Suppose that someone who prudently owns his business or property in a LLC or corporation is sued and the claim isn’t covered by insurance. What can the owner do? In a hypothetical situation, a client contacts me to inform me that two employees of his small mortgage business had sued his corporation and sued him personally, claiming sexual harassment. The client said these former employees had been “bad apples” and that there was no basis for the lawsuit. Nevertheless, the client is worried about what some jury might be led to believe and asks me if I could help him: i) immediately form a business entity for his apartment building; and ii) transfer substantially all of his assets to a close relative. The client naturally wanted to protect his assets so that they would not be available to these employees if they happened to win their lawsuit and be ordered to pay a large damage award.
I would first suggest that he check with his business insurance agent to see if he might have applicable insurance coverage. Unfortunately, most business policies (“General Liability”) exclude or contain very limited coverage for sexual harassment claims; and only special policies – that only a small percentage of business owners purchase (“Employment Practices Liability Insurance”) – include relevant coverage.
Next, I would warn that there was a whole body of (complex) law dealing with “fraudulent conveyances” that would render ineffective the transfer of all or most of his assets out of his name. Essentially, these laws prevent people from effectively thwarting known or anticipated creditors from collecting a judgment if such transfer renders the alleged wrongdoer insolvent.
The “bottom line” is that it is critical to employ asset protection strategies before a problem arises. One should consult with an insurance professional and/or an attorney in advance of any claims or threatened claims. At that point, it’s possible to create viable protection by taking various asset protection measures. Some of these include: purchasing optimal insurance, forming one or more business entities, creating trusts for the benefit of loved ones containing spendthrift provisions, and sheltering assets, as appropriate, in highly creditor-protected vehicles, such as 401Ks, IRAs, and life insurance.
As the old saying goes, if you fail to plan, you are planning to fail!
This article is intended to provide information of a general nature, and should not be relied upon as legal, tax, financial and/or business advice. Readers should obtain and rely upon specific advice only from their own qualified professional advisors. This communication is not intended or written to be used, for the purpose of: i) avoiding penalties under the Internal Revenue Code; or ii) promoting, marketing, or recommending to another party any matters addressed herein.
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