When executing funding strategies for your operating/holding companies, one approach has the small business owner personally own, and lease to the operating entity, exempt assets such as office equipment, furniture, automobiles and other "tools of the trade," at least where these assets are not at a high risk of causing personal injuries. This strategy adds an extra layer of protection for business assets. If you contribute exempt assets to the business, instead of owning and leasing, you lose this extra layer of protection.
Holding these assets outside the entity allows the owner to continue to claim his asset exemptions under bankruptcy and state court proceedings. Moreover, leases allow the owner to withdraw vulnerable funds from the entity. Clearly, the strategy of personally owning business assets can form the basis for multiple strategies.
Asset exemptions are available only to natural persons, and not to business entities such as limited liability companies (LLCs) or corporations.
Thus, a contribution of an exempt asset to the business entity will mean a loss of the exemption. As a rule, then, exempt assets should not be contributed into the business entity, and certain exempt assets, including a home, should never be contributed to a business entity.
In general, exempt assets should not be contributed to the business entity, unless they are at a high risk of causing personal injuries. For example, high-risk assets, such as factory machinery or heavy equipment, generally should be contributed to the entity, because liability may run to the owner of the asset. Though the asset exemption is lost, the asset is still protected and the overall risks are reduced.
Note that these assets can be contributed to the holding entity or to the operating entity. Where there is an especially high risk of injury, the assets should be contributed to the operating entity, and then encumbered with liens in favor of the holding entity or owner. Where the assets are especially valuable, and of only moderate risk, the holding entity may be a more appropriate reservoir for these assets.
Alternatively, the owner may personally own, and lease to the operating entity, certain high-risk assets, if he is sure he carries more than an adequate amount of liability coverage. This alternative is somewhat risky, as tort judgments can sometimes be extreme. This alternative becomes more attractive in a state with no cap on its exemption for tools of the trade (see below).
Some assets will be inherently low risk, such as office equipment and furniture. These assets are ideal candidates for the contribution strategy. Other assets can have a high or low risk, depending on the circumstances. For example, an automobile driven only by the owner may be low risk, while automobiles or trucks driven by other employees generally will be high risk. Thus, in the former case, it may be possible to personally own and lease the assets to the operating entity, while in the latter case, it may make more sense to contribute the assets.
These types of assets usually will be exempt as "tools of the trade". The actual exemption available in the particular state in question also should be determined as well, as states differ significantly in the amounts, and types, of tools of the trade they protect. This strategy will be most effective in states that have no cap on the tools of the trade exemption.
Leases of these, and other, assets also allow the owner to withdraw vulnerable funds from the operating entity. An effective asset protection plan always relies on multiple, integrated strategies.
Note, too, that other strategic funding practices, such as the use of liens, will protect assets that are placed within the business form. These practices will place these assets out of the reach of creditors, effectively converting these assets into exempt assets.