Are Your Personal Assets at Risk From Your Business?

Lately, I’ve had a lot of people asking me whether they should incorporate their business and if so, what form of entity to use. Of course, there is no universal answer. If there was, there’d be only one kind of business entity.

Before we talk about what kind of entity is right for your business, let’s do a quick review on what is an entity and why you need one for your business. Think of an entity as a structure that will hold the assets (and liabilities) of your business. You can imagine this structure as anything that works for you. I like to think of it as a bubble. This bubble can come in the form of a Limited Liability Company (LLC) or a Corporation (either an S-Corporation or a C-Corporation). There are also forms of partnerships, including a Limited Partnership (LP), but if you are considering that, make sure you are working with an actual lawyer who is counseling you personally.

When you create an LLC or Corporation for your business, envision that you are blowing a bubble around your business like a shield. The bubble is formed by filing papers with the State in which your business entity will be incorporated. In many cases, that will be the State of your residence. But in some cases, which we’ll discuss, you may want to use another State, such as Delaware or Nevada.

Your bubble (entity) will also need to have a Federal Tax ID Number (like a SSN, but for an entity instead of a person) and documents that tell you how and any partners you may have how to operate the entity. For an LLC, these documents are called the Operating Agreement. For a Corporation, they are called the Bylaws.

If you work with a document service to incorporate your entity, make sure they are not just going to give you standard form bylaws or operating agreements. These documents should be customized to the specifics of your business and your vision for how your business will operate.

You should put a bubble around your business if you want your personal assets to be shielded from any of the liabilities of the business. With the bubble around your business, if anything happens inside the bubble your personal assets are not at risk from any of the liabilities of the business.

Yay.

What sort of liabilities?

Well, things like an employee or independent contractor bringing a lawsuit against you, or an employee getting into a car accident during work hours. Or things like entering into equipment or property leases. Contracting with vendors. Taking on business credit. All of these things could lead to potential liability. And, if these things are not done under the shield of your business entity, your personal assets would be at risk. No bueno.

The only situation in which I say an entity is not necessary is if you are in a low growth, hobby type business in which you will never have anyone working for you and don’t expect to make much money.

If you are working to grow your business, get it set up in an entity that will allow you to take as much risk as possible with as little risk to your personal assets as possible.