New Year, New Company

(Last Updated On: January 24, 2017)

As a tumultuous 2010 comes to a close, many people impacted by the recent economic downturn are pausing to reflect on the past year and plan for 2011.

Some have decided to strike out on their own and go into business for themselves.  Others may be considering it.  Still others may decide to start a side business, or take advantage of opportunities to invest in the real estate market as additional sources of income.  As with all challenging times, the opportunities are numerous.  The strategic use of new business entities can benefit these individuals as they plan for their future endeavors.

When entering into business, or expanding into a new field, there are many reasons to consider forming a new business entity.  The most common business entities for small business are corporations and limited liability companies (“LLCs”).  There are significant tax and operational differences between a corporation and LLC, however both offer some of the same benefits to business owners.  The most significant benefit, is limited liability.  As opposed to a sole proprietorship, a business entity has a separate legal identity apart from its owners. As a sole proprietor, the liabilities of your business become your personal liabilities.  This means that if your sole proprietorship owes a debt, the creditor can seek collection against the personal assets (including investments, bank accounts and real estate) of the business owner even if those assets are not in any way related to the operation of the business.  By contrast, the corporation or LLC is treated a separate legal “person” for liability purposes.  Thus, absent fraud, a creditor seeking to collect on an obligation of the company may only pursue collection against the assets of the company.

Another common use of business entities is as a means to isolate and protect certain assets.  This is most common in the area of real estate investing.  Many people choose to own their real estate investments in their own personal names.  However, by doing so each of those assets are at risk from liabilities associated with any of the properties.  For example, Mr. Turner, a small businessman, decides to invest in two rental properties, a single family home and a duplex.  He owns the properties outright and holds title in his personal name.  One night a tenant at the single family home is seriously injured at the property as the result of an improper repair.  The tenant files suit and the amount of the judgment rendered exceeds the limits of Mr. Turner’s liability insurance policy.  The tenant can seek to collect not only against Mr. Turner’s equity in the single family house, but also the duplex, and all of Mr. Turner’s other individually held assets.  Had Mr. Turner taken title to the house and the duplex using separate business entities, the duplex and his other assets would have been shielded from this liability.

As shown above, the benefits of using business entities are not just for large companies.  The numerous potential advantages, ranging from tax savings and asset protection, to the ability to limit and isolate liabilities, make the use of business entities even more important for small businesses as well as for individuals investing in real estate.  The choice of which type of business entity to use varies greatly with the individual facts, so the advice of counsel, is critical at the early stages when forming a new company.

Careful consideration and strategic use of business entities can allow you to minimize risk and maximize the protection of your assets, regardless of the nature of your business.