8 Creditor Proofing Strategies for Business Owners
Whether they’re established business owners or just starting out, it’s important that Ardent Wealth business-owner clients regularly review their creditor protection strategies I have always been fascinated how many times I have met very smart and successful business owners who have neglected to put in place strategies that creditor proof what they have spend a life time to build. Today in Canada there are 1.1 million active incorporated businesses, of these 75% employ fewer than five people. It is these companies that drive our economy.
A note on liability
Business owners, officers and directors can be personally liable for:
- any debts they have given a personal guarantee;
- any statutory debts, such as wages and vacation pay;
- any source deductions and commodity taxes; and/or
- health and safety violations including environmental damage
Here are 10 tips to convey to your business-owner clients:
Strategy One : Consider Incorporating.
When a business is incorporated under Canadian law it is considered a separate legal entity from the individual or individuals who own the incorporated business. What this means is if an incorporated business is sued successfully the personal assets of the business owner/s are protected from creditors in most situations.
Proprietorship and Partnership businesses in Canadian law are seen and deemed to be the same legal entity as the person and people who own and operate them. This means that creditors can sue the owners of these types and business structures and take aim at their personal assets such as their homes, investments, and RRSPs.
Strategy Two: Create a holding company.
Holding companies may be placed between shareholders and their operating companies for reasons of taxation and legal protection. The income in the operating company remains subject to a lower tax rate using small business deductions. Dividends may be paid from the operating company to the holding company at a preferred tax rate to build up assets in the holding company, keeping the active company mean and lean, free from creditor intrusions.
Strategy Three: sufficient personal liability coverage.
Ensure sufficient personal liability coverage for your company such as director’s, home and auto coverage in the event of a serious accident, your personal assets could be seized to pay any shortfall in insurance.
Strategy four: Spousal RRSP.
In some provincial jurisdictions RRSPs are creditor protected. However, it is a wise strategy for a business owner to consider making part or all of his or her RRSP contributions into a Spousal RRSP. The business owner will take the tax deduction and the asset becomes the spouse’s property. Creditors will not be able to attack the assets of the spousal RRSP provided that the spouse is not a director or guarantor for either the business or the personal debt of the contributing spouse.
Strategy Five: Create an Inter-Vivos Trust. (Living Trust)
A living trust is created while a person is alive. This type of trust enables a person to control the distribution of their estate while they are alive. An individual is able to transfer ownership of his or her property into a trust. A revocable living trust is a vehicle that is very helpful in avoiding probate and completing an estate freeze.
In some cases non-revocable trust assets that are transferred to the trust may remain available to creditors. However, a living trust will make it much more difficult for creditors to have access to the assets of the trust. Creditors will first have to petition the court for a changing order to be able to attack the assets held in the trust.
Strategy Six: ownership of personal property is in a spouse’s or in grown children’s names.
When the ownership of personal assets is in a spouse’s or grown child’s name, these assets are separated from the business owner’s assets and liabilities. Creditors will not be able to attack assets of a spouse or grown child provided that the spouse or grown child are not directors or guarantor for either the business or personal debt of the contributing spouse.
Strategy Seven: Make shareholder loans to become a secured creditor.
An owner of an incorporated business can make shareholder loans back to his or her company becoming a secured creditor, having first rights to corporate assets if the company has debt and other financial troubling issues.
Strategy Eight: Purchase Investment and Retirement Products Through Insurance Companies.
Investment products held in insurance companies such as RRSPs, universal life policies, segregated investment funds and annuities may be protected from an individual’s creditors if the named beneficiary of these insurance products is a spouse, parent, or grandchild of the annuitant, or if the named beneficiaries on these insurance products are irrevocable.
Get professional tax and legal advice on a creditor protection plan. This is not a do-it-yourself plan. Make a plan now. Once your business is in trouble, it is almost impossible to establish a creditor protection plan. It must be done while the business is healthy or new.