BUSINESS AND PERSONAL WEALTH PRESERVATION

In a good economy business owners focus their time and efforts on growing their business and personal wealth. There is little time to consider business preservation/asset protection issues. During difficult economic times we are encouraged to take a step back and review our overall business and financial situation. Difficult times tend to highlight areas that may be weak or vulnerable. We should take the time to deal with these issues and make every effort to strengthen our overall business preservation plans. Not only will we be protecting our current assets, but we will also be better positioned to move forward when economic conditions dictate.

We have observed a dramatic increase in our clients' interest in reviewing their business structures, as well as the structure of personal investments, to ensure that they have taken all possible steps to protect the wealth they have worked so hard to accumulate. We begin our review by asking the client a series of questions that are intended to highlight any current weaknesses that should be addressed, such as:

· Have you maximized the limited liability characteristics of your operating entities?
· Are your real estate, franchise rights, intellectual property rights and other non-operating assets held in separate entities?
· Have you spun off under-performing stores into separate entities in order to minimize cross default and cross collateralization issues?
· Are you providing separate supplier agreements for different entities?
· Do all of your leases provide the ability to sublet, have buy-out provisions and/or have an option to purchase the real estate?
· Are you prioritizing the payment of your business obligations so that items that have potential personal liability, such as payroll taxes, are satisfied first?
· Have you done a good job of minimizing spousal guarantees and making sure that any required personal guarantees have burn-off provisions (or were subsequently renegotiated to add such provisions)?
· Have you built sufficient walls between your business assets and personal assets, and are you avoiding the commingling of business obligations and personal assets?
· Have all of your shareholder loans to your business been collateralized (even if only on a secondary basis)?
· Do your buy/sell agreements sufficiently incorporate mechanisms to account for an economic downturn, particularly in the areas of valuation and put options?
· Have you considered the use of tools such as a family limited partnership to shift assets to family members and also create additional layers of ownership that creditors must work through?

The responses to these questions highlight any areas that may need attention. The ultimate goal is implementation of a comprehensive plan that will provide maximum protection from the risks inherent in the client's business and personal situation, while still allowing for the beneficial enjoyment of such assets.

We have identified certain recurring themes that our clients in the restaurant industry need to focus on.

1. Corporate Structure. Make sure the business structure provides maximum liability protection. This can be accomplished by using a corporation, limited liability company or limited liability partnership as the business entity. Use of this type of structure will create a protective wall between business assets and other personal assets. Except in unusual circumstances, the use of a general partnership or sole proprietorship should be avoided. The structure selected for a business should provide for proper segregation of each operating entity and certain business assets. This may require the use of multiple operating entities. For example, if there are troubled business locations or locations with an uncertain future, these locations should be in separate entities. Cross-collateralization and cross-default provisions among lenders and creditors of the separate entities should be avoided. In addition to segregation of assets by operation, the assets within each operation should be reviewed in detail. The objective is to ensure that each operating entity holds only the assets necessary to operate that specific business. An operating entity should not hold any equipment or property that is not integrally related to the business of that entity. The proper utilization of flow-through entities, and even entities that are disregarded for tax purposes, can significantly ease the tax compliance burden associated with the new structure.

 

2. Ownership of Intellectual Property. Intellectual property (e.g., trade names, recipes, or other proprietary assets) generally should be held in a separate entity. The entity holding the intellectual property sets up license agreements that allow the operating entities to use the property. The segregation of intellectual property from the operating entities will preserve the existence of the intellectual property if the operating entities experience financial problems. Additional asset protection can be created by having the license agreements provide for termination under certain circumstances (e.g., as a change of control resulting from a creditor stepping into the business).

 

3. Real Estate. Real estate should never be owned personally or by an operating entity. The real estate should be owned by a separate entity that leases the real estate to the operating entity. The reason for this is the same as discussed previously regarding intellectual property. The lease should provide that the lessee (i.e., owner of the operating entity) may sublease the property, close the facility, or buy out the lease. The lessee/owner should also maintain an option to purchase the real estate (again making sure that this potentially valuable purchase option is held by an entity other than the operating entity). Furthermore, any real estate with special issues (such as environmental concerns) should be further segregated in order to not expose the other real estate to any resulting liability

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4. Personal Guaranties. In the current market, we see many issues arising from personal guarantees. Obviously, personal guarantees of loans to an operating entity should be avoided whenever possible. If a personal guarantee is required, the agreement should provide that the guarantee will "burn off" if the company performs well for a period of time. Even if this protection was not part of the original agreement, there are situations in which it is possible to renegotiate the terms.

 

5. Financial Obligations. An unfortunate result of current market conditions is an operating entity's inability to meet all of its current obligations. It is critical that all obligations for which a business owner may have a personal liability (e.g., payroll and sales tax liabilities) are paid on a timely basis. Accounts payable (with the possible exception of franchise obligations) are not normally obligations for which the owner is personally liable. Common sense dictates that if the payment of obligations must be prioritized, the highest priority should be given to obligations that are personally guaranteed or that create other personal liability.

 

6. Human Resource Management. Restaurant owners must have the flexibility to react to changes in the economic climate. Owners should ensure that their employees are kept "at will." Owners should also have the ability to terminate employees with minimal severance. While never an attractive option, downsizing may be necessary to minimize costs and maintain the ongoing viability of the business.

 

7. Estate Planning Issues. The optimum estate plan is one that maximizes lifetime enjoyment of assets and, at the same time, preserves the ability to maximize the assets eventually passed to heirs. For most restaurant owners, the business is likely to be a significant portion of the overall estate assets. It is critical that an estate plan be specifically tailored to an individual's role as a small business owner in general and as a restaurant operator in particular. It is also important that the business structural issues discussed above are coordinated with the estate planning objectives and documentation.

Make the effort to work with your business advisors to not only identify potential areas of exposure, but also to be proactive in dealing with these issues. There may be several planning options available to you that can have a significant impact on securing and better positioning your business and personal assets.