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5 Legal Protections for Your Family Business

Date: June 27, 2011

Many family crises are unavoidable and unpredictable. But you don’t have to be unprepared. Here are five legal maneuvers that can help protect your family business through a crisis.

1. Confidentiality Agreements

Require every employee—family and non-family—to sign a non-disclosure agreement. This helps family members maintain secrecy and privacy about the business’ affairs, and prevents bad-mouthing outside the business. It also prevents in-laws and other outsiders from using family information in a lawsuit.

2. International Asset Trusts

If you live in a community property state (20 percent of states), one spouse is entitled to half the other’s assets in the event of divorce. The best way to protect the business from a split is establishing an international asset protection trust for each of the spouse’s assets. When structured properly, this type of trust offers a high degree of protection from lawsuits and creditors—says Art Boelter, a family business and tax attorney in Seattle. Then, appoint only one spouse the trustee. (The other spouse must sign off on this.)

3. Dividends

Many family businesses lend money to family members through loans to shareholders. However, in the case of insolvency, a creditor can go after these family members’ personal assets to recover their money. “Consider re-characterizing that loan as a [shareholder] dividend,” which is more like a payout than a loan, says Boelter. “You might have to pay tax on it, but it’s a low rate.” Creditors cannot sue family members for dividend payments.

4. Last-to-Die Life Insurance

If the family business owner’s estate is subject to estate taxes, it’s wise to have a last-to-die insurance policy which helps cover any unexpected estate taxes the heirs have to pay. Premiums are often very low. (For more information on estate planning, go to www.NFIB.com/business-resources/sell-my-business.)

5. Fraud Prevention

The best way to protect your family business from fraud is following simple internal procedures, says Boelter. Require multiple signatures on checks, don’t allow your controller to sign the biggest checks, and have more than one person review monthly bank statements. Make sure your banker knows these rules and procedures so he or she can identify foul play.

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