Protecting your business assets is imperative, especially if you are planning for future generations to take over the business. Incorporating your business or setting up a limited liability company (LLC) provides some personal protection, but it does not protect business assets. However, setting up separate companies for separate businesses will protect one business' assets from the creditors of a second business that you own.
Setting up a trust may also help to protect your business assets. Several different types of trusts exist, and you need to choose the type of trust that best fits your situation. While you may draft your own trust, you should retain an attorney if you have extensive business assets to protect.
In general, combining appropriate business entities with trusts can provide enhanced asset protection. Both corporations and LLCs can offer significant protection for personal assets from business liabilities, with the choice between them depending on factors such as tax considerations and management preferences. For example, if you own rental properties, creating an LLC to hold and manage these assets is often recommended due to its flexibility and potential tax advantages. The membership interests of this LLC could then be placed in a properly structured irrevocable trust for additional protection and estate planning benefits.
Currently, the “death tax” is set high enough so that most families and small businesses do not have to worry about meeting the threshold of taxation upon the owner's death; however, the tax laws could change. Even if you do not think you have enough assets to meet the threshold, it is still a good idea to create a trust.
When you set up a trust to protect your assets from creditors, you must be careful, or you could end up in a bind with a creditor accusing you of avoidance. To avoid this, it's generally recommended that you set up a trust for your business at the same time you create the business. By doing so, a creditor is less likely to presume that you only set up that trust to avoid the creditor's reach.
Even if you do not think you may need protection from creditors, circumstances could change, so it is always a good idea to set up protection for your business and personal assets before or at the time you set up a business.
Not everyone will need the same type of trust. Personal trusts and business trusts vary based on each person's circumstances. Before you choose a trust, be sure you choose the one that best benefits your business and what you see in the future for your business.
A Grantor Retained Annuity Trust (GRAT) is an irrevocable trust designed to transfer appreciation on assets to beneficiaries while minimizing gift tax consequences. A business owner can use a GRAT as part of their estate planning strategy to potentially transfer business assets with reduced gift and estate tax implications.
In a GRAT structure, the grantor (the creator of the trust) transfers assets, such as S corporation shares, into the trust for a specified term. During this term, the grantor receives annuity payments from the trust, which can be a fixed dollar amount or a percentage of the initial trust value. These payments are typically structured to return the entire initial value of the assets to the grantor over the trust’s term, creating what's known as a 'zeroed-out' GRAT.
When considering a GRAT, it's crucial to ensure that the assets can generate sufficient returns to make the required annuity payments to the grantor. This is especially important for businesses, as consistent cash flow is necessary to meet the annuity obligations.
If your business is worth more than the limit for estate taxes, you do not have a lot of liquid assets, and you want to pass the business to a family member, then a life insurance trust might be the answer for you. Consider taking out a life insurance policy—it is better if you have one already—and place the life insurance policy into an irrevocable life insurance trust. By placing the life insurance policy in an irrevocable life insurance trust, you could avoid estate taxes on the life insurance policy.
The life insurance policy would pay the estate taxes and would give the other child an amount equal to the worth of the business if the policy is large enough. You could even start out with one insurance policy and gift cash to the trust to purchase more life insurance. The trust is the beneficiary and the owner of the life insurance policy.
After you die, the trust documents give the insurance policy to the beneficiaries you named in the trust and you will have enough cash to pay the estate taxes. The assets contained in the trust are also free from estate taxes. Your children will not have to liquidate the business to cover estate taxes or to split the assets so that one sibling gets an equal amount.
There are two caveats with a life insurance trust:
A living trust is for personal or business assets and is in place while you are still alive. Should something unexpected happen where you become unable to tend to your affairs, your family is able to continue running the business, or in the case of personal assets, are able to manage your assets for you.
When you place your business assets in a living trust, the business is able to keep running, thus it is able to support you, even though a family member is running the business. Upon your death, the assets in the trust go directly to the beneficiary, allowing the business to continue after your death should the family member choose to keep running the business. Even if your estate does need to go through probate, the assets contained within the living trust will usually be disbursed much quicker than assets that are not in the trust.
When you set up a living trust, you may designate yourself as the trustee, plus a secondary and tertiary trustee. That way, you remain in control of your assets for as long as you are alive. Upon your death, the secondary trustee gains control of the assets. Should something happen to that person, the tertiary trustee gains management of the assets.
The living trust may also reduce the tax burden on your estate in some cases. The estate will likely still have to pay federal taxes, but it generally minimizes state inheritance taxes. Combine the living trust with a life insurance trust to further reduce your heirs' tax liabilities.
Furthermore, you are not required to file a living trust with the courts; however, some applicable laws or regulations might require that it be signed and notarized. As with any estate documents, be sure the trustees and beneficiaries know where to find the documents in the event of your death or if you become unable to tend to your own affairs.
Another document to have handy is a durable power of attorney. This document gives another person permission to make decisions if you are not able. This document is useful if something happens to you and you are unable to handle your own affairs. A durable power of attorney and a living trust for your business makes it very easy for the agent and beneficiary to continue conducting business for you when you are not able to.
A durable power of attorney allows the agent to buy and sell real estate; make medical decisions; register, buy, and sell vehicles; pay personal and business creditors; and more, depending on the permissions you give. Should you wish the agent to file bankruptcy on your behalf, you may also add language to that effect, though special care should be taken in such a case. This may come in handy should the business start to fail while you are ill and unable to take care of your own affairs.
Different types of trusts will help your heirs avoid having to liquidate the business in order to pay taxes. Your wishes are able to continue in the name of your family or friends if you set up the proper trusts for business and personal assets.
Use our forms below to create the trust that is right for you right now.