The Law Office of Frederick R. Short, Jr.
Presents
THE MIDDLE-AGED AND THE RESTLESS
A PLAY BY FREDERICK R. SHORT, JR.
PRODUCED BY FREDERICK R. SHORT, JR.
DIRECTED BY FREDERICK R. SHORT, JR.
STARRING
TOBY ANNOUNCED as CHRIS, a middle-aged
entrepreneur
and
RAND M. CHOICE as NICKY, an estate planning
attorney
With a brief introduction by FREDERICK R.
SHORT, JR.
Sponsored by
Law Office of Frederick R. Short, Jr.
3733 University Blvd. West, Ste 203
Jacksonville, FL 32207
Tel: 904 731-0211
Fax: 904 731-0477
Email: fshort@wolfandshort.com
Copyright 2004 Frederick R. Short,
Jr.
BUSINESS PROTECTION PLANNING
There are, in general, five ways in which our estate
planning clients have accumulated their wealth:
» Gift or inheritance
» Ownership of a business
» Employment as upper-level management
» Investment
» Criminal activity
Many
have employed two or more of the above methods to reach the upper crust
financially. Let’s listen in to the
initial conference between an asset protection specialist and client.
................................
Character
description:
Chris: Middle
aged small business owner preparing to enter into her second business venture.
Nicky:
Estate Planning Attorney
............................................
Chris: “Please
call me Chris.”
Nicky: “Thanks,
Chris. I did a little internet snooping
just to get a little background before you came in.”
Chris: “Good,
I like a person who is prepared. Very
resourceful of you, Nicky, uh, may I call you Nicky?”
Nicky: “Sure,
Chris. I see from your profile that
some years ago you invested a small inheritance in a health food kiosk called
Herb’s Herbs, moved into your first
store in a strip mall, began making your own supplements, began selling
wholesale throughout the region, nurtured it to a public offering, made big
bucks as an officer and director of the publicly-held company, were convicted
of conspiracy to misstate earnings and then retired early to play in the
market.”
Chris: “Yep. All true.
Now at age 50, I’m bored. So, I
am on the verge of putting all of my money and energy into a new internet
business. I also thought it was time I
updated my estate planning. My late
husband and I did wills years ago, but since then I’ve been married and
divorced and have kids by both my deceased husband and my ex-husband.”
Narrator: Nicky brings up the subject of asset
protection
Chris: “I
came to you for estate planning........you know.......saving taxes and trusts
for grandchildren and advance directives, that sort of stuff. I’m going to incorporate my new business
online. Won’t that protect my
investment?”
Narrator: Smiling, Nicky pulls from the bookshelf
the National Business Institute manual on ASSET PROTECTION TECHNIQUES IN
FLORIDA and begins reading to Chris from the first section, ASSET
PROTECTION - IT’S ONLY HUMAN and the second section, ASSET PROTECTION AND
ESTATE PLANNING. As Nicky reads, it
becomes clear to Chris how asset protection planning is a major component of
her estate plan and that, in Chris’ case, protection of her investment in her
business will be a prominent concern.
Chris is all ears.
PROTECTION PROVIDED BY LLC VERSUS INC
Narrator: Nicky explains to Chris that
incorporating a business has traditionally been the way to go to provide
maximum protection for the business and personal assets of an
entrepreneur. Assuming the shareholders
have not personally guaranteed corporate debts, the personal assets of the
shareholders are not available to satisfy judgments against the
corporation. And in Florida, the shield
afforded by an incorporated entity is as strong as any state in the United
States.
Chris: “I
knew that... that’s why I was going to fill in the blanks on the Articles of
Incorporation at the Secretary of State’s website so my personal assets would
be protected from business liabilities.”
Nicky: “Yes,
Chris, not long ago incorporating was the best you could do. Just filing with the Secretary of State,
though, is only part of the story. To
be comfortable that your personal assets are protected from the creditors of
the business, you must follow through by respecting the corporate structure on
a day-to-day basis. You need to hold an
organizational meeting, issue stock certificates, elect directors and officers,
and document all of this in written minutes. You should document through
minutes not only major corporate decisions like borrowing money, expanding,
acquiring other businesses, but also your compliance with statutory
requirements such as holding annual meetings of the shareholders. Even though these formalities seem like
silly paperwork at the time, if a creditor later challenges the protection of
the corporate shield, you will be glad you took the time to tend to these
details.
Narrator: As Chris absorbs Nicky’s didactic aside,
Nicky continues:
Nicky: “But
there has always been a shortcoming to incorporation.....even an S corporation. The stock of the corporation is NOT
protected from the creditors of the shareholder.”
Chris: “Now
that you mention it, I found that out in my divorce from Henry”. He tried to get half of my stock in Herb’s
Herbs (my baby!) and I had to give him other assets to keep him from getting an
equal interest in the business I built with my own sweat and money.”
Nicky: “Now,
there is something better...a limited liability company.”
Chris: “Oh,
yeah,” (Chris leans forward) “LLC.
All my network buddies are doing those, but I thought it was just a more
fashionable thing people are doing to show they are on the cutting edge.”
Nicky: “Well,
Chris, there is a real asset protection benefit to an LLC. You never know who
might try to hold you personally responsible for the losses they incurred
because Herb’s Herbs, Inc.’s earnings statements were inaccurate. If you own
the controlling interest in your new corporation, a judgment against you would
mean the plaintiffs could collect by seizing the stock of your new company. They would then have a controlling interest
in your company. As controlling
shareholders, they could manipulate corporate policy, including liquidating the
assets, to get the cash they needed to satisfy the judgment. You could negotiate a much more favorable
settlement of such a lawsuit if you could demonstrate that, instead of stock in
a corporation, you own units of an LLC.”
Chris: “What
would be the advantage to that?”
Nicky: “Instead
of a controlling interest in a corporation, all the creditors would get is a
“charging order”. All they would be
entitled to would be your share of any distributions from the business. But the creditor would have no other
rights. They could not affect business
policy. You would retain all other
rights of the owner of the membership units with respect to management of the
business. The creditor can’t vote. In fact, the creditor would not even have
the right to inspect or copy your business records the way it would if it owned
shares in a corporation. So, with an
LLC the assets of your business are shielded from the interference of your
personal creditors. Plus, your personal
assets are protected from creditors of the business just as securely as they
would be if they were in a corporate entity (assuming you respect the
formalities as I mentioned before).”
Chris: “My
creditors can only get distributions that would have been paid to me? Gees, just like Herb’s Herbs, I expect to be
plowing the profits from this new venture back into the business. There won’t be any distributions for years.”
Nicky: “Exactly.”
LPs AND LLPs
Narrator: From an asset protection standpoint, the
effect of a limited partnership is the same as a limited liability company
except that the LLC does not require a general partner with “substantial”
assets who is personally liable. A
limited liability partnership enjoys the same asset protection characteristics,
but there are major differences in the rights of the partners vis-a-vis each
other.
STRUCTURING OWNERSHIP OF THE BUSINESS
Narrator: Nicky can see Chris’s acute business mind
working.
Chris: “So,
I form this LLC to own the assets of my business”.
Nicky: “Hold
on, Chris, you are going too fast.
First, tell me about this new venture.”
Chris: “Everything
I tell you is confidential, right?”
Nicky: “Strictly”.
Chris: “You
know that a major ailment of older people is problems with balance? The ‘old
man’s shuffle’ is the result of his feeling unstable on his feet. Seniors falling and breaking bones is a
serious healthcare issue. An engineer friend of mine has developed a
lightweight helmet with a tiny gyroscope in it that people with balance
problems can wear to steady them without having to use a cane or walker. We are going to manufacture them and sell
them through infomercials on TV and on the internet. R & D is complete, we have a patent application pending, we
are working on a web site, instruction manuals, promotional and educational
brochures and a logo, all of which we want protected by copyright and
trademark. And, oh, we want to protect
the name of the product, which we have dubbed “WalkRite”. We are negotiating to buy buildings for our
management and manufacturing facilities and are in the process of ordering the
expensive equipment and materials necessary to produce the things in quantity.
”
Narrator: Nicky is surprised at how much Chris has
done without consulting an advisor.
Nicky: (Scolding).
“Listen, my friend, you should have had your asset protection structure in
place already. First of all, you do NOT
want the business directly owning the building, equipment, patents, copyright,
and trademarks.”
Chris: “Well
who owns them, then?”
Nicky: “A
separate entity, or several separate entities, such as LLC’s, limited
partnerships and trusts. You and your
engineer colleague can form a separate LLC to own the buildings and another
entity to own the intellectual property and equipment. Then these entities lease the building and
equipment to WalkRite, LLC. The patent,
copyright and trademark rights are licensed to WalkRite, LLC.”
Chris: (Looking
puzzled) “Why so many different
entities, Nicky?”
Nicky: “To
protect one group of assets from being vulnerable to lawsuits affecting the
others. What if there is a defect in
the WalkRite that results in people being injured or killed?”
Chris: (Protesting).
“Wait a minute!”
Nicky: “Just
pretend, Chris. I know that
WalkRite is your newest baby and you can’t imagine it being less than perfect,
but sometimes.........................just look at vehicle air bags. Their sole purpose was to save lives. Then we started to see that, in certain
circumstances, the air bags were killing children. They had to be completely redesigned and the manufacturers faced
a number of lawsuits.”
Chris: “Okay. SUPPOSE, WalkRite gets sued.”
Nicky: “And
that you are trying to negotiate a settlement with a plaintiff’s lawyer. The only assets available to satisfy a
judgment against WalkRite are its office furniture and equipment, cash,
inventory and accounts receivable.”
Chris: “They
won’t be worth a whole lot,”
Nicky: “The
plaintiff’s attorney will see that and will be willing to settle for a much
lower number,”
Chris: “So
we could continue in business because the buildings, patents and equipment
would still be intact!”
Nicky: (Assuringly). “Precisely.
If the name “WalkRite” was owned by a separate LLC and merely licensed
to the manufacturing and marketing business, you could even resume business
using the same name as before.”
PROTECTING ACCOUNTS RECEIVABLE AND INVENTORY
Chris: “What
about the inventory and accounts receivable?
Would I have to liquidate them to pay a judgment?”
Nicky: We
may even be able to plan for that. You
are putting a lot of cash into the business up front, right? Well, instead of contributing it all as
capital, you can loan up to 75% of it to the business and then take a lien on
the accounts receivable and inventory that would have priority over any
subsequent creditors.”
Chris: (Looking
surprised). “You mean I would file a UCC-1 against my own company?”
Nicky: “Yep.”
ASSET REPLACEMENT INSURANCE
Chris: “Why
don’t I just buy a lot of insurance?”
Nicky: “You
do need insurance, Chris, but there are some risks that insurance doesn’t
cover........or at least obtaining the coverage is prohibitively
expensive. You can get general business
premises coverage, worker’s comp, personal liability, including fleet coverage,
and officers and directors liability coverage.
But coverage of some risks is difficult or impossible to find, such as:
·· Illegal,
intentional or grossly negligent acts of employees;
·· Product
liability suits;
·· Contract
disputes with suppliers, distributors or service providers;
·· Judgments involving conflicts with
employees and independent contractors;
·· Civil rights judgments such as racial,
ethnic, religious, gender, disability or age discrimination;
·· Sexual
harrassment.”
EMPLOYMENT AGREEMENTS
Narrator: Chris seems to react to Nicky’s last
statement.
Chris: “You
mentioned conflicts with employees, Nicky.
I’ll be honest with you, that worries me more than anything. I want to hire the best to run my company,
but I don’t want them to turn around and sue me if things don’t work out.”
Nicky: (Empatheticaly).
“I see. You know, the experienced managers will insist on an employment
agreement guaranteeing them certain benefits.
Those agreements can end up being a win-win solution because, not only
are your top managers protected from being victims of power struggles, but the
agreements can be part of a ‘poison pill’ strategy to discourage unwanted
takeover of your business.”
Chris: “Hmmm,
so I can put in a clause where they waive their rights to sue me?”
Nicky: “Sorry,
Chris, but employees can’t waive their rights to recover damages for
discrimination or harassment. Those problems should be headed off by comprehensive
policies and procedures which give the employees open and confidential access
to grievance procedures and a company culture that takes such complaints
seriously and responds quickly to correct problems and disciplines those
responsible. Part of this effort should
be to thoroughly educate staff at all levels about what they can do if they
experience discrimination or harassment or are charged with it. Having such policies and business attitudes
are a major asset protection strategy.”
GOLDEN
PARACHUTES
Chris: “Okay,”
(sighs), “I understand the concept of the “poison pill”. We enter into
agreements with directors, employees and shareholders that are contingent on
some event like a hostile takeover attempt.
The agreements make a takeover less attractive to the prospect by
calling for large payouts and commitments that must be honored by the new
owners.”
Nicky: “Correct. For example, you might want to include a
‘golden parachute’ provision in the employment contracts of the top executives,
including yourself.”
Chris: “I
thought golden parachutes were illegal now,”
Nicky: “There
were lots of abuses and the IRS didn’t take kindly to it. They got Congress to enact some stiff
penalties if the poison pill is too nasty, but as long as you stay within the
guidelines of Sections 280G and 4999 of the Internal Revenue Code, golden parachutes
are still effective asset protection devices.”
Narrator: Chris
stands up and walks over to the window
Chris: “I am
not impressed by your spouting code provisions. Give it to me in business speak, please.”
Nicky: (A
little defensively). “I was just reassuring you that I didn’t pick up this
information at the track. First of all, you need to know that the limitations
on parachute payments don’t apply if a business is eligible to elect Subchapter
S treatment (whether or not it actually makes the election) or if a
corporations’s stock is not ‘readily tradeable on an established securities
market’. In the beginning, WalkRite
will meet these tests and so will not be subject to the tax limitations on
golden parachute payments. However, if
WalkRite goes public, as Herb’s Herbs did, you will need to make sure your
employment contracts don’t include excessive parachute payments. Also, please understand that the tax law
limitations only apply where the payments are in the nature of compensation
paid to a ‘disqualified individual’ in connection with a change in ownership or
control or in the ownership of a substantial portion of the business
assets. A disqualified individual is an
employee (or independent contractor) who performs services for the corporation
and who is an officer, a 1% or more shareholder or a ‘highly-compensated
individual’ of the corporation.”
Chris: “For
future reference, Nicky, what is an ‘excessive’ parachute payment?”
Narrator: Resisting the temptation to cite Section
280G, Nicky explains:
Nicky: “It
is compensation that exceeds 3 times your average annual compensation for the
previous 5 years. The amount in excess
of that average is not deductible by the employer. Furthermore, the employee must pay an excise tax of 20% of any
excess parachute payment received.”
THE END