Posts in: August

The ‘ABCs’ of Buy-Sell Agreements

August 30, 2016 Asset Protection, Business planning, Law, Small Business Comments Off on The ‘ABCs’ of Buy-Sell Agreements

Most of us know that in business it is crucial to choose your partners carefully as the success of your business (and perhaps your livelihood) depends on it. We also encourage our business owners to have frank discussions with their partners regarding the details of the partnership and all the “what ifs” that could happen, and to confirm these agreements in a written partnership agreement at the outset of the partnership.

In addition, to ensure stability and certainty in the partnership, we usually want the partners we select to abide by certain limitations on the partners ability to sell or dispose of the interest, such as requiring partners to first following agreed upon procedures, or a require “right of first refusal” in favor of the existing partners.

A frequently overlooked detail, especially for long term partnerships, is what would happen if a life changing event happened to the partner? For example, if your partner experiences a sudden death, does that mean you now have new partners that you never agreed upon (such as the spouse or children of your deceased partner)? In most cases, if an existing partner passes away without any written plan in place, the deceased partner’s interest would pass to his/her heirs (e.g. the departing partner’s spouse or children).

The departing partner’s surviving spouse or heirs will usually have no experience or interest in operating the partnership and so planning is necessary to ensure that a departing partner’s family is adequately compensated without unduly interfering with the operations of the partnership.

Without any concrete written succession plan, you may find that your new partner or the outcome resulting from a departing partner may be determined by a civil, probate or family law court which could be expensive, and even result in the dissolution of the partnership. Most partners in a business or investment want the ability to choose who their partners will be, and would not want such unpredictability, delay, and risk in the partnership.

A buy sell agreement is an agreement among partners (or shareholders) which specifies what happens to the partner’s interest in the event of a life changing event. In most cases, these agreements cover the “four D’s” being death, disability, divorce, or departure. However, it can cover any potential situation where a partner may depart including retirement, resignation, expulsion, or sale to a third party.

Occasionally people attempt to solve the succession uncertainty by setting forth provisions in their estate plan for handling or distributing their interests in a partnership. This is not recommended because (1) including these provisions in individual estate plans do not require the input of the other partners, and therefore, one of the primary goals of promoting harmony and a mutual agreement among partners is lacking, and (2) most estate plans can be amended at any time prior to death, thereby frustrating the need of the partners for absolute certainty regarding the transition of partnership interests.

A typical buy sell agreement will contain provisions whereby if one partner experiences a death, disability, divorce, or departure from the partnership, the other partners will have an automatic right to purchase their interest at agreed upon terms and price.   Oftentimes, in order to avoid liquidity issues, partners can get life and/or disability insurance on each of the partners that would fund the buyout of the departing partner’s interest. Alternatively, a buy sell agreement could specify payment of the departing partner’s interest in installments over time at an agreed upon terms, but usually that is not preferred in the case of a death or disability where the family of the departing partner may be in need of an immediate lump sum.

Since the value of the business can change over time, it is recommended the buy sell agreement set forth procedures for determining the value of the business on an ongoing basis for purposes of an unexpected buyout. Agreed upon appraisers may be used for this purpose, but it can be costly and time consuming in actual application. Instead, we generally recommend that the partners meet periodically (e.g. annually) to review the agreement and update the company valuation. This helps the partners to achieve the primary goals of a buy sell agreement, to promote certainty and the orderly transition of a departing partner’s interest, while making sure that the departing partner’s family and/or next of kin are adequately compensated.

Similar to an estate plan or marital property agreement, a buy sell agreement can be as flexible and specific as the partners wish. Many partnership agreements or operating agreements include provision governing transfers of partner’s interests, but make sure that those provisions are suitable for your situation and are comprehensive enough to apply to each of the different scenarios in which the departure of a partner could cause instability, uncertainty, or interfere with the management or business of the partnership.

A well conceived buy sell agreement should assure all the partners so that they know exactly who their partners would be in the event a triggering event, but also assure the partner’s next of kin that they will be adequately compensated for their interest in the event of a tragedy. If these provisions don’t exist in your current documents, a separate buy sell agreement that supersedes contrary provisions in your existing agreements may be recommended so that the partnership operations will not be adversely affected by a life changing event from one of the partners.

LLC’s and Limited Liability Protection: A Primer for the Small Business Owner

August 16, 2016 Asset Protection, Business planning, Real Estate Comments Off on LLC’s and Limited Liability Protection: A Primer for the Small Business Owner

KKOS Lawyers is the Entrepreneur’s Law Firm.  By definition, an entrepreneur is someone who assumes the financial risks of a new enterprise and who undertakes to provide its management. The LLC or an s-corporation are typically the preferred business entities of choice for the entrepreneur / small business owner.  This article focuses on the LLC. An LLC typically consists of Owner/Member(s) and a Manager(s), although an LLC could be setup as Member-Managed.  One reason for its popularity is that the LLC provides limited liability for the Member(s) and Manager(s).    Hence, the purpose of this article is to help the small business owner recognize the benefits and the limitations of the limited liability that an LLC provides to the owner(s) and manager(s).  First, the Owner/Member:

LLC Owner/Member Liability

  1. Cash Investment (Capital Contribution). An Owner/Member of an LLC is always at risk to lose their cash investment in the business.  An LLC cannot prevent that.  If the business fails, the Owner(s)/Member(s) lose(s) their cash.  But that is typically the extent of their exposure.
  2. Liability to the Other Owners/Members. Typically, except for criminal acts or gross negligence, an Owner/Member is not personally liable to the other Owner(s)/Member(s) of the LLC.
  3. Liability to Third Parties under Contract Law. Generally, a contract signed by the LLC on behalf of the LLC Manager(s) does not expose an Owner/Member to personal liability.  However, this is only true if the contract does not require a personal guaranty, e.g., in the context of a business loan or other financing.  In such an event, the Owner/Member who personally guarantees the loan will be personally liable for the debt obligation.
  4. Liability to Third Parties under Tort law. An Owner/Member of an LLC is not liable for a tort committed by the Company or under the direction of the LLC Manager, or for a tort committed by the LLC Manager acting outside the scope of the Manager’s authority.  However, an LLC is not a license for an Owner/Member to act criminally or even negligently, especially if the LLC is such that the Owner/Member is also the LLC Manager and/or has direct dealings with third parties on behalf of the LLC, such as if the LLC is Member-Managed.  In such a situation, if the Owner/Member has in fact taken action that results in a tort against a third party, there can be personal liability.
  5. Liability to Third Parties as a Professional. If the Owner(s)/Member(s) of an LLC is/are licensed professionals, such as doctors, lawyers, accountants, etc., an LLC will not protect from malpractice and related negligence.  This is a good example of how insurance is always important regardless of the form of business.

The manager(s) of an LLC is also protected from liability in certain respects, similar to the CEO or Chairman of a corporation.  The policy behind this protection is so a company can recruit the best and brightest individuals to manage and run the day-to-day operations of the company without being exposed to personal liability:

LLC Manager Liability

  1. Liability to the Owners/Members under Fiduciary Law. Typically, the LLC Manager has a fiduciary duty to the Company and therefore serves the interest of the Owners/Members as a whole.  If the LLC Manager breaches that fiduciary duty, there can be liability.  In short, a fiduciary duty means a duty of care and a duty of loyalty.  In the case of duty of loyalty, that means a duty to subordinate self-interest to the interest of the LLC, such that any conflict of interest must be disclosed, although a conflict of interest that has been disclosed can typically be waived in the LLC Operating Agreement.
  2. Liability to Third Parties under Contract Law. A Manager who signs a contract in its role as Manager on behalf of the LLC has no personal liability to the other party(ies) to the contract.  But as mentioned previously, this is only true if the LLC Manager does not personally guarantee the contract, whether the contract is a loan, lease, etc., and only if the LLC Manager is authorized to enter into such a contract on behalf of the LLC.
  3. Liability to Third Parties under Tort Law. Typically, a Manager is indemnified by the LLC for actions the Manager takes that are within the scope of her role as Manager.  This is one of the benefits of having an LLC because it allows a Manager to run the business without fear of personal liability.  But, a Manager may be held personally liable for criminal action and intentional actions that are outside the scope of its authority.

As you can see, LLC liability is not as simple as it is sometimes described.  Also, this article is focused on personal liability of LLC Owners and Managers.  The liability of the Company is another matter, such as when the actions of an employee of the Company result in liability for the Company under the legal principle of Respondeat Superior, which is Latin for, “don’t hire dummies” (it’s actually Latin for, “let the master respond.”)  But fortunately, with an LLC or other business entity type that limits the liability of the owners, only the Company and not the Owner is liable for the negligent actions of the employees.

However, beware that in rare situations, an LLC will be disregarded by a judge in a lawsuit involving the business.  If that happens, all of the benefits of the LLC discussed herein are also disregarded.  This might happen if the LLC is being used to perpetuate a fraud, circumvent the law, or some other illegitimate purpose.  This also might happen if the LLC is setup to be insolvent, i.e., not adequately capitalized, or personal and business interests are commingled to the extent that the LLC has no separate identity.

Also, please note that some of what has been discussed herein can be modified in the LLC Operating Agreement, except where prohibited by law.  Additionally, LLC’s are typically governed under state law, which are not uniform across the Country.

In sum, the LLC provides liability protection but it is not the end-all, be-all and should be used in concert with insurance in all its forms, e.g., liability, errors & omissions, etc.  Our office regularly assists small business owners and real estate investors with all of the questions that should be asked when considering an LLC.  If you are not sure whether an LLC is an appropriate legal structure for your situation, please contact our office to schedule an appointment.

Go for the Gold…and Keep It – What to Do If You Receive a Financial Windfall

August 9, 2016 Business planning, Estate Planning, Retirement Planning, Tax Planning Comments Off on Go for the Gold…and Keep It – What to Do If You Receive a Financial Windfall

I don’t know about you, but right now, every evening, I find myself riveted to the screen, breathlessly taking in action in synchronized diving, archery, water polo, and even rhythmic gymnastics!  This can only mean one thing (because I would never otherwise watch any of these sports) – it must be time for the Summer Olympics!

Every four years, the world gathers for this ultimate showcase of athletic talent, and almost without fail, each Olympics produces a singular performance from an individual who wins at least one gold medal and becomes a superstar practically overnight.  For these lucky few (I’m thinking of people like Mary Lou Retton and Michael Phelps), an Olympic gold medal truly does change their life.

They come home to millions in endorsement deals and other sources of income.  Their gold medal basically becomes a winning lottery ticket, and they’re not the only ones.  Most countries actually hand out bonuses for Olympic triumphs.  American competitors who bring home the gold will also bring home $25,000 in cash for each first place finish.  While that’s certainly nothing to sneeze at, Vladimir Putin is a little more generous, dishing out roughly $61,000 for each Russian gold medal.

However, according to Forbes, the real big money comes from a few countries that are a bit more starved for Olympic glory.  Azerbaijan is handing out $255,000 for each Olympic gold. Indonesia will shell out $383,000.  And the gold medal for gold medal payments goes to Singapore, which will make its athletes $753,000 richer for striding to the top of the medal stand to the strains of Majulah Singapura – the Singaporean National Anthem.

Both the American Olympic-made superstars, and any Singaporean or Indonesian who wins gold, will return home to a world filled with very different financial realities than the one they left on their way to Rio.  The same can be said for everyday folks who come into a financial windfall.  Whether the money comes from winning the lottery, winning or settling a lawsuit, an inheritance, or an investment paying off in a huge way, there are several important steps you should take to make sure you are able to keep (and perhaps even grow) what has come your way.Put Together

  1. Your Own Financial “Dream Team”. This is especially important if you’re unaccustomed to dealing with large sums of money.  You will be well-served to bring on board an experienced and honest financial planner/advisor, as well as a CPA, an attorney, and an insurance professional to help you deal with the tax and legal issues that will (not may) come up.
  2. Take Your Time. Be wary of those who will almost certainly come out of the woodwork with investment opportunities that are a “can’t miss” but that require you to “strike while the iron is hot.”  Your windfall should afford you the time to sit down with your advisors and family members about what your priorities are for the money.  Is paying off your mortgage the most important thing?  Maybe it’s paying for your children’s college education.  These are decisions that need to be made before making any particular investments.
  3. Review and (If Necessary) Revise Your Estate Plan. That will you had drawn up when you first got married and had no kids may be woefully inadequate (not to mention inaccurate) now that you have children and have experienced a financial windfall.  The extra assets may significantly increase the complexity of your estate.  If it’s large enough, the windfall may also put you in a situation where you need to start thinking about, and planning to negate, the effects of estate taxes.  If you are in this situation, please go talk to your estate planning attorney (or hire one) as soon as possible.
  4. Think Twice Before You Quit Your Day Job. You may be tempted to quit your job, but quitting may actually be a really bad idea. What if your tax burden is higher than you anticipated?  In addition to the obvious loss of wages, you might also miss many of the workplace benefits, such as tax-advantaged retirement accounts, health insurance, or even the sense of purpose and well-being that comes from going to work.  If you do quit your day job, think about replacing it with something entrepreneurial in nature.  Being self-employed can give you that sense of purpose, and can provide you ways (such as a Solo 401k) to continue to receive benefits similar to those of being someone else’s employee.
  5. Don’t Forget About Taxes. It is vitally important to ascertain as quickly as possible what the net after-tax value of your windfall will be, keeping in mind that you will need to keep enough cash on hand to actually pay those taxes. In making this determination, you’ll likely need to take into account income, gift, and estate taxes, on both the federal and state levels.  There are also legitimate strategies that may help you put a dent in your tax bill.  However, be very cautious of anyone who says they have a strategy to eliminate taxes completely – especially if that strategy involves going off-shore.  A good CPA will help you make sure you are paying Uncle Sam everything he is owed, and not a penny more, without the risk of going to jail.

If fortune smiles upon you and a financial windfall comes your way (whether by inheritance or by winning a gold medal for Singapore), please take the necessary steps to avoid losing it, and to avoid losing things that are even more important – like your family and friends.  It seems crazy, but statistics show that 44% of lottery winners are broke within five years of winning their jackpot.  Studies also show that lottery winners frequently become estranged from family and friends, and incur a greater incidence of depression, drug and alcohol abuse, divorce, and suicide than the average American.  While not a guarantee of anything, taking the steps laid out above can help you avoid becoming a part of those sad statistics.

How to Reduce Your Liability as a Landlord

August 9, 2016 Asset Protection, Business planning, Law, Litigation, Real Estate Comments Off on How to Reduce Your Liability as a Landlord

Premises liability is an area of the law that addresses the responsibility of land owners to individuals who come on the land.  This is basically the liability a Landlord faces when owning property.

Perhaps the most common form of premises liability which most people hear of is the “slip and fall,” but it could also include liability against property owners for any injury on the property, even those from mass shootings such as the shooting in Virginia Tech in 2007 that resulted in an $11 million settlement.

For most of us, potential liability for personal injuries is the greatest and most likely source of liability we commonly face, and this is especially true for landlords owning rentals.  Therefore, taking steps to reduce your chances of premises liability for properties that you own should be a part of everyone’s asset protection plan.

The specific standards for evaluating a premises liability case is determined by the laws of the state where the property is located.  However, the factors courts most often look towards is the foreseeability of the harm balanced by the measures that the landowner could have taken to prevent the harm.   In general, the more likely it is that an injury could occur on the property, the more steps the landowner should take to mitigate that risk.   Therefore, the question in many of these cases is whether the landlord had any reason to be aware of a particular risk that resulted in an injury.

For example, in Virginia Tech case, there was evidence the school had some knowledge of the perpetrator’s disturbing behavior prior to the shooting, that they knew there was a gunman was on campus before the attack occurred, and that school officials had locked down their own building on campus, but failed to issue an all-campus notification for more than two hours thereafter.  By contrast, in the 2012 Aurora Colorado shooting at the Cinemark movie theater, the plaintiffs alleged that the movie theater failed to employ security officers and place alarms on the doors, but the Court dismissed the case holding that the movie theater could not have foreseen the premeditated and intentional actions of the shooter.

In general, if the landlord is aware that an unreasonable risk of harm exists, appropriate steps should be taken to mitigate that risk.  Of course, insurance is a key component for risk management but here are some additional tips that could reduce the chances for premises liability:

  1. Landlords should periodically inspect the property and assess what if any dangers pose a threat to persons on the property, document those findings, and take appropriate action to remedy those risks.  Courts will generally balance the likelihood or severity of the risk with the burden on the landlord to take corrective measures, and weigh those factors based on the totality of circumstances.    If the risk was highly probable and/or could result in severe consequences, those factors could tip the balance in favor of liability against the landlord.  On the other hand, if the cost for corrective measures is excessively high, that could tip the balance in the landlord’s favor.
  2. Be proactive in seeking and requiring tenants to report potentially dangerous conditions, and do not ignore complaints from tenants regarding conditions on the property. Once you have been informed of an issue, you are on “notice” which may give rise to a duty to take corrective action to protect the tenants from further harm.  Don’t let ticking bombs fester.
  3. Familiarize yourself with laws or customs that affect the condition of the property such as lead based paint, asbestos, mold, smoke or CO detectors, etc., as failure to comply with these established laws or standards could make the landlord an easy target.   Make sure all the systems on the property are updated and conform to code requirements.
  4. If you become aware of incidents that cause injury or damage, you should be proactive in taking steps to prevent such incidents in the future.  This is known as the “prior similar incidents” rule.  For example, if you discover that there has been a rash of burglaries in the area, you may have a responsibility to take reasonable precautions such as installing locks, screen doors, or cameras.
  5. Require appropriate insurance for potentially dangerous activities or conditions. This could apply to tenants who want, for example, to keep pets, above ground pools, trampolines, playgrounds, etc.   Of course, knowing your tenants and regulating any illegal or risky activities they may engage in is a must.  This is where a solid lease agreement could be your strongest ally.

Keep in mind that, in general, you would not be liable for an injury that you had no reason to know would occur, and there must be some degree of fault that must be proven for the landlord to be liable.   Incidents do happen even for the most conscientious of landlords, but being proactive and taking appropriate action as soon as you become aware of potential risks will go a long way in keeping you out of court.