How do you protect your wealth, business, and inheritance from lawsuits and creditors? How can LLCs, partnerships, and corporations protect assets? What’s the risk of piercing the corporate veil, and how do people avoid it? What’s the best way to shield business, real estate, and personal wealth from lawsuits and creditors? Is a Wyoming LLC better and does it provide for stronger protection? How can I protect my child’s inheritance from divorce, bankruptcy, and legal claims? Does a Living Trust offer asset protection?
By James L. Cunningham Jr., Esq.
Imagine spending thirty years of your life building a successful business, accumulating real estate and rental properties, and saving for retirement—only to have it all wiped out by a single lawsuit.
It happens.
A disgruntled employee sues your company and takes your personal assets in the process. A business partner racks up debts, goes bankrupt—and his personal debts take your company down. Your business partner suffers a stroke and suddenly you’re in business with their spouse. You pass away thinking you set up your child nicely, but they get divorced, and their ex-spouse walks away with half or more of what you left behind.
What happened? Your assets were exposed because you didn’t structure them properly.
Most people don’t take steps to protect their assets until something bad happens, and then it’s too late. But you can help protect your assets from these types of threats—if you do it now and do it the right way.
In this article, I’ll give you an overview of how to use (and not use) LLCs, corporations, and trusts to shield wealth from lawsuits, creditors, and even future ex-in-laws. The focus will be on business owners, but asset protection is a much broader subject on which you will find information throughout this website.
Remember that every situation is different, and if you need help with any of these issues, I urge you to set up a call with CunninghamLegal today. You will also find many more details in the accompanying webinar.
What Is Asset Protection and Why Do Business Owners Need It?
Asset protection is a component of financial planning designed to reduce risk—and it’s especially important for people with equity in businesses, because businesses can create liability for you, and your personal issues can create liability for the business.
Asset protection refers to the legal strategy of structuring your business and personal assets to protect them from third-party claims such as lawsuits, ex-spouses, and creditors. Think of it as a firewall. If something goes wrong—for example, a lawsuit, a bankruptcy, or a contentious divorce—you want to make it as difficult as possible for someone to take your assets. Individuals and business entities use asset protection techniques to limit creditor access to certain valuable assets while operating within the bounds of debtor-creditor law.
What Liabilities Come from Inside and Outside Your Company?
As I hinted above, two fundamental types of liability affect a business owner:
- Inside Liability: Risk from inside your business and its operations, for example, a lawsuit against your company for breach of a business contract that threatens your personal assets.
- Outside Liability: Risk from your personal life that endangers your business. For example, you get sued following a car accident, and a creditor tries to take your company assets.
You need to protect against both kinds of liability if you own a business.
What Asset Protection Is NOT
People make a lot of mistaken assumptions about the right way to shield their assets. Here’s a quick list of what asset protection is not:
- Asset protection is not something you do after you get sued. If you transfer assets after a lawsuit has been filed, a court can void such transfers.
- Asset protection is not about hiding assets. Courts can void transfers, deeming such transfers as “fraudulent.” Proper asset protection is about properly structuring your assets in a completely legitimate, legal way so that they are protected .
- Asset protection is not putting assets in your Living Trust. Your Living Trust provides no asset protection for you, the creator of the Living Trust, though it can provide some protection to loved ones after you pass away.
- Asset protection is not a substitute for adequate insurance. Insurance companies insure defined risks and can pay an injured party instead of an injured party taking your assets.
- Unlike insurance, asset protection helps prevent injured parties from getting to your assets in the first place. Insurance also has very strict limits on what events are covered, for how long, and for how much. Insurance companies also have large staffs dedicated to getting out of paying claims.
Now, let’s talk about the structural tools you can actually use to help protect yourself.
What Are the Primary Business Structures for Asset Protection?
If you own a business, there are three primary business structures to consider. Only two of these structures offer meaningful protection.
1. Sole Proprietorships & General Partnerships: The Worst Choices for Asset Protection
If you’re running a business as a sole proprietor, you’re likely completely exposed. If someone sues your business, they’re suing you personally. This is extremely risky because it offers you no protection from errors in your work life or attacks on your business from predators. In the same way, your business is not protected from financial issues in your personal life.
Believe it or not, General Partnerships are even worse. You’re probably not only liable for your actions—but also for your partner’s mistakes. General partnerships implode all the time due to one partner’s bad decisions, carelessness, or malfeasance.
Just say no to sole proprietorships and general partnerships.
2. Corporations: Good, But Require Formalities
Corporations offer strong liability protection—if you follow the rules.
Both S Corporations & C Corporations can protect shareholders from business debts. However, corporations require strict formalities, like regular board meetings, keeping corporate minutes, filing annual reports, and more. It’s all too easy to fall down on regular upkeep of these formalities—and failing to follow those annoying formalities can result in a creditor or predator piercing the corporate veil (more on this in a minute).
3. LLCs: The Best of Both Worlds
Limited Liability Companies (LLCs) combine the liability protection of a corporation with the flexibility of a sole proprietorship. An LLC can be your best bet for protecting your personal assets—if it’s structured correctly.
I have a more extensive webinar on choosing between LLCs, Corporations, and Partnerships you may wish to watch.
Why Even Very Small Businesses Should Consider an “Entity” to Protect Them
Without a business entity (LLC or Corporation) to protect you from liability, even events that are not your fault can destroy your personal assets. Here’s a classic example of what can happen:
Alpha and Bravo create Yummy Ube as a general partnership and hire Echo to deliver their Ube-flavored ice cream in a van leased by the company. Echo is rear-ended by a drunk driver who pushes Echo into a mini-bus carrying 10 people, all of whom suffer grave injury. Even though Echo is deemed only 1% at fault, Echo, Alpha, and Bravo are jointly and severally liable for the “special damages” (medical bills) which add up to over $30 million. Indeed, Alpha and Bravo may be 100% personally liable for those bills! No kidding. Indeed, if Alpha was the only one with money, he might end up shouldering the whole bill.
If they had formed Yummy Ube as an LLC or Corporation as an “entity,” the resulting lawsuits may have quickly destroyed the business, but Alpha and Bravo may well have escaped personal liability…assuming they had maintained the “corporate veil.”
What Is Piercing the Corporate Veil? It’s How Business Owners Lose Everything
Ever heard of the corporate veil? It’s legal jargon for what separates your personal assets from your business. If your business gets sued, the lawsuit shouldn’t affect your home, retirement accounts, or personal savings.
But there’s a problem: If you don’t structure and operate your business correctly, a court can “pierce” the corporate veil and go after your personal wealth.
What Are the Most Common Ways Business Owners Accidentally Enable Courts to Pierce the Corporate Veil?
There are multiple ways to accidentally weaken your corporate veil and allow a lawsuit to pierce it, but here are the top four:
- Mixing personal and business finances.If you’re using your business account for personal expenses (like groceries or vacations), you’re asking for trouble.
- Not keeping proper records.If you don’t follow corporate formalities—including holding meetings and documenting decisions—a court may disregard your corporate structure.
- If you don’t put enough money into the company at the start, or keep enough in it while it’s operating, a court may say the business was a sham from the beginning. But…how much is “enough”?
- Another important way courts may pierce the corporate veil in California is if the LLC or corporation fails to pay California Franchise Tax or file required reports. I call this out because it is all too common. As of this writing, the annual tax to maintain an LLC in California is $800+. That’s money well spent.
A client came to me after his business was sued by an unhappy customer. He had created a Corporation with all the proper paperwork in California, and he thought his Corporation protected him—until the court pierced the corporate veil because it found he had been using company funds for personal expenses. The result? The plaintiff went after his home and personal savings, and a bitter legal battle ensued.
This is why asset protection is about more than just creating an LLC or corporation—it’s about maintaining it correctly. A savvy lawyer can help you with this. I invite you to contact CunninghamLegal for help.
What Is a Wyoming Close LLC and Why Is It the Gold Standard?
Not all LLCs are created equal. In California, for example, a personal creditor can foreclose on your ownership interest in your business. But if you form a Wyoming Close LLC, the only remedy is a charging order—which means the creditor must wait until you take distributions from your business before they can try to collect, and most importantly, a creditor cannot take over your company.
Indeed, if a creditor gets a charging order against you, they may find themselves liable for some of the related income and capital gains taxes – a kind of poison pill.
It’s a complex issue, but this difference has made Wyoming LLCs extremely popular, and often a vital strategy to investigate. Importantly, however, the Operating Agreement must be correctly structured to move beyond a simple Wyoming LLC to a “Wyoming Close LLC.” Don’t try to do this on your own, and I invite you to contact CunninghamLegal for help.
How Does a Holding Company Protect Your California LLC Business Assets?
If you own multiple businesses or properties, a Wyoming holding company structure can help protect your assets. If you create a Wyoming Close LLC as your holding company, it may own other LLCs you control. For example, a Wyoming Close LLC could own your multiple California LLCs, which in turn own things like California real estate. If you get sued, creditors may not be able to break into the Wyoming Close LLC—so your other assets could stay protected.
This strategy greatly reduces the risk of losing assets due to a lawsuit.
Related strategies include creating separate LLCs to own and operate a business, so that errors by the operating company do not create liability for the ownership entity. Again, these are complex strategies that require savvy legal help. Contact CunninghamLegal to discuss your particular needs.
What Is the Corporate Transparency Act, and What Do You Need to Know?
Among the important steps you need to take to protect your business is to have a full understanding of the Corporate Transparency Act.
The Corporate Transparency Act is a new federal law designed to combat money laundering, terrorism, tax fraud, and other corrupt activity in which bad actors attempt to use corporate structures to shroud their identities. Starting in 2024, the CTA requires all privately held companies to report ownership information to the federal government. If you own an LLC or Corporation, you most likely must file a report—or face hefty fines.
As of this writing, significant legal battles are being fought over the CTA, and its future is uncertain. Please contact CunninghamLegal for the latest updates, and we offer Corporate Transparency Act compliance services—reach out for details.
What Is Business Succession Planning, and Why Is It Crucial to Protect Assets?
One major danger to your business assets is the lack of a meaningful succession strategy. Any number of ownership events can threaten your company with chaos and create highly problematic control issues. Ask yourself these questions…and then contact a reputable attorney in business and estate law to help your business documents deal with all the eventualities:
- If your business partner dies, do you want to be in business with their heirs?
- If your business partner files for bankruptcy, do you want the Trustee in Bankruptcy to be your business partner?
- If your business partner divorces, do you want to be in business with their ex-spouse?
- If your business partner strokes out and becomes incapacitated, do you want to be in business with a Conservatorship Court or their Successor Trustee?
It’s just as important to plan business succession around your own retirement for business continuity.
It’s vital to have mechanisms like buy-sell agreements, powers-of-attorney, partner insurance, non-disclosure agreements, and specialized trusts in place to assist with business continuity and an agreed succession of assets for any of these circumstances. Nothing in place? A sudden catastrophe to an individual could endanger the entire company.
Getting these strategies right is a vital reason to have a qualified business lawyer involved in creating even a “simple LLC” here in California, where the exact language in the Operating Agreement can make or break the continuity of a company over the long haul. Far too often, people form LLCs by simply downloading the template for an Operating Agreement from the internet or using an online robot.
You will find a more extensive discussion of business succession strategies in the accompanying webinar at time mark 42:40. Need help with these issues from both a personal and business perspective? Set up a call with CunninghamLegal today.
How Can You Protect a Child’s Inheritance from Divorce and Lawsuits?
Of course, it’s not just businesses and business owners that need asset protection. I have extensive blogs and webinars on the broader subject of asset protection, but let me just touch on two crucial issues related to protecting your child’s inheritance.
Most people don’t realize that an inheritance left outright to a child can be exposed to creditors, lawsuits, bankruptcy, and divorce (yes, an ex-spouse can sometimes claim half!). Too often, living trusts succeed in avoiding probate, but then suddenly stuff an inheritance into the child’s pockets. If that child is in the middle of a lawsuit, divorce, or bankruptcy, such a distribution of funds is possibly not in the child’s best interest. There is a better way.
Many people have converted their old “outright distribution” trust to an Inheritance Protection Trust, which is a “continuing trust” after death. Through the use of this important vehicle:
- The inheritance stays protected in the Inheritance Protection Trust.
- Your child still inherits the money, but creditors and ex-spouses generally can’t get at it.
- You can set rules for how and when your heirs receive distributions.
For maximum protection, name a third-party Trustee instead of your child. Contact us to learn more about these approaches to Estate Planning.
Are Inherited IRAs Protected Assets?
No. Inherited IRAs are NOT assets that are automatically protected from creditors and predators. Indeed, thanks to a 2014 Supreme Court case, inherited IRAs have no creditor protection whatsoever. This makes it especially important for you to work with an expert to create specialized approaches for your heirs.
One important strategy to consider is an IRA Legacy Trust. Put simply, you work with a qualified, savvy Estate Lawyer at CunninghamLegal to create a special vessel to receive your IRA (individual retirement account) when you die. This trust is named as the sole IRA beneficiary, with individuals named as beneficiaries of the IRA Legacy Trust itself.
An IRA Legacy Trust is irrevocable and takes on a life of its own, entirely separate from you or your living trust, and having its own trustee. If structured correctly, it can offer powerful protections against creditors, predators, and ex-spouses.
What is a Domestic Asset Protection Trust (DAPT), and How Can It Protect You?
To protect your assets while you are alive, and provide “outside liability protection” to you, consider a Nevada Domestic Asset Protection Trust (DAPT). At this writing, 17 states offer this legal structure, and we generally prefer establishing such trusts in Nevada. Indeed, some of our clients have moved to Nevada simply to take advantage of these laws—but you don’t have to be a resident of Nevada to set up a DAPT in Nevada and enjoy the benefits. DAPTs are also sometimes called “self-settled spendthrift trusts.”
A DAPT is an irrevocable trust in which you, the Creator, place important assets, and control of the trust is in the hands of a Nevada based third party—someone who is not a relative and not an employee or otherwise subject to your authority. We recommend Premier Trust, or other Nevada Trust Companies, to be Trustee. The Creator then becomes a “discretionary beneficiary” of the trust. This structure can offer powerful protection against creditors in many circumstances, but it is a complex subject and you should enlist the help of a savvy, expert Estate Planning Lawyer at CunninghamLegal to set it up properly.
To learn more about DAPTs, you may wish to view the accompanying webinar at timestamp 29:21. I invite you to contact CunninghamLegal to see if this strategy might be right for you.
Final Thoughts: No Strategy Is Ironclad…and Assemble Your A-Team
Let me be very clear about two things: 1) Even the best asset protection strategy can be overturned in court, but without a savvy legal strategy established in advance, you are taking on far more risk. 2) Asset protection is not a DIY project. Every situation is different, and what works for one person or business may not work for another. Find a qualified Trust & Estate Lawyer, a CPA, and perhaps a financial advisor as well. These folks should work together as a team on your behalf. I call it your A-Team.
At CunninghamLegal, we can help you with:
- Business structuring for maximum protection
- LLC and Corporate compliance
- Trusts and Estate Planning to help safeguard assets for yourself and your heirs
Don’t wait until it’s too late. If you are a business owner who needs a strategy to protect your assets, contact us today.
What Do We Do?
The lawyers and staff at CunninghamLegal help people plan for some of the most difficult times in their lives; then we guide them when those times come.
Our experienced legal team specializes in Estate Planning, Tax Planning, Business Law, and Asset Protection to help protect your wealth and legacy for generations to come. With offices across California, we offer in-person, phone, and Zoom consultations to make expert legal guidance accessible wherever you are.
Many of our clients also find our legal webinars invaluable. We cover a wide range of essential topics, including California-specific issues.
Ready to take the next step? Call us at (866) 988-3956 or schedule an appointment online.
We look forward to working with you.
Best, Jim
James L. Cunningham Jr., Esq.
Founder, CunninghamLegal
At CunninghamLegal, we guide savvy, caring families in the protection and transfer of multi-generational wealth.
