When starting a new business, many entrepreneurs are advised to operate through a proprietary limited company (Pty Ltd), which helps limit their liability in case of financial trouble. While this advice is beneficial, it’s just the beginning. Ensuring the safety of your assets is equally important. Here's why asset protection should be a priority alongside liability limitation.
What is a Proprietary Limited Company?
A proprietary limited company, denoted by the “Pty Ltd” suffix, is a privately owned entity where the shareholders' liability is generally confined to the amount they’ve invested in the business. This usually means that if the company goes bankrupt, shareholders are not personally responsible for repaying its debts, as long as they haven’t personally guaranteed the debts.
However, it's important to note that the company’s directors—who are often the same individuals as the shareholders—may face personal liability in certain circumstances, such as when the company is allowed to continue trading while insolvent. Therefore, before taking on the role of director, it’s crucial to protect your personal assets by minimizing ownership of assets in your name.
But What About the Business Assets?
While a proprietary limited company helps shield personal assets like your home, it doesn’t protect the business assets used in operations. If your business is successful, its value could grow significantly, potentially becoming one of your most valuable assets. But what happens to that value if the business fails?
When a business goes insolvent, the assets within it—such as inventory, equipment, intellectual property, and even cash—are typically liquidated to pay creditors. To prevent your hard-earned business assets from being at risk, it's essential to set up a structure that both limits liability and secures the assets you’ve built.
The Solution: Separate Business Risks from Business Wealth
To safeguard your business assets, the next step is to create a structure that separates the risks of the business’s operations from the wealth generated by its assets.
One effective way to do this is by establishing a dual-entity structure. This involves having one entity—typically the proprietary limited company—run the day-to-day operations of the business (known as the "Operating Entity"). Meanwhile, another entity, such as a trust, a separate company, or even a self-managed super fund, should own the business assets (the "Asset Owning Entity"). The Operating Entity can then lease, license, or borrow the assets it needs from the Asset Owning Entity.
This arrangement ensures that even if the business goes under, the assets remain protected, as they belong to the separate entity and aren’t available to creditors of the Operating Entity.
Two Key Steps for Effective Asset Protection
To ensure this structure works as intended, two critical actions must be taken:
Formalize the Agreements: To keep the assets legally separate, you need formal agreements between the two entities. These agreements outline how the Operating Entity will use the assets, while confirming that ownership of the assets remains with the Asset Owning Entity. They should also specify any fees the Operating Entity must pay for using the assets.
Register the Security Interest: The Asset Owning Entity must register its security interest in the assets on the Personal Property Securities Register (PPSR). The PPSR is a public system that records interests in personal property, ensuring that anyone dealing with the Operating Entity understands that it does not own the assets. Without this registration, creditors could mistakenly believe that the Operating Entity owns the assets, and in the event of insolvency, those assets could be seized to settle debts.
Cash Management: An Important Consideration
In addition to physical assets, cash is another crucial element to protect. If your Operating Entity faces legal action or insolvency, any retained earnings or business cash would be accessible to creditors. One strategy is to regularly transfer profits from the Operating Entity to a holding or Asset Owning Entity. If the business needs working capital, the Asset Owning Entity can provide the necessary funds through a secured loan, which must also be recorded on the PPSR.
Key Takeaways
When setting up a business structure, it’s important to remember the following:
A proprietary limited company limits liability, but it doesn’t protect your assets.
To shield your business assets, separate business risks from business wealth.
Implement a dual-entity structure where one entity operates the business and another owns the assets.
Create formal agreements between the two entities to clarify how assets are used.
Register the Asset Owning Entity’s interest in the business assets on the PPSR.
Regularly distribute profits from the Operating Entity to reduce exposure to creditors.
How We Can Assist You
If you’re launching a new business or restructuring your current operations, Symmetry Accounting & Tax can guide you through the process of setting up the right structures for liability and asset protection. Our services also extend to offering advice on tax efficiency and succession planning, ensuring your business is secure both now and in the future.
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