In this episode, Anderson Business Advisors’ Toby Mathis, Esq., and business advisor Eric Winkler break down three catastrophic mistakes people make when entering partnerships. They explore why failing to separate personal and business liability can expose partners to financial ruin, sharing real-life stories including three brothers who lost everything when a partner’s personal debts wiped out their shared bank account. Toby and Eric discuss the critical importance of proper operating agreements, individual protection structures, and choosing the right business entity and jurisdiction from day one. They also walk through three steps to protect any partnership, including why Wyoming LLCs offer powerful charging order protection. Whether you’re partnering with friends, family, or strangers, this episode delivers essential guidance on structuring your business to survive the unexpected.
Highlights/Topics:
- 00:00 Intro
- 00:58 What Is a Partnership?
- 02:29 The Hidden Liability Risk in Partnerships
- 03:43 When Partners Disappear With the Money
- 05:00 The Three Brothers Real Estate Disaster
- 07:40 How Creditors Seized the Partnership’s Bank Account
- 08:22 Why You Must Structure Partnerships Correctly From Day One
- 09:07 Mistake #1: No Liability Protection
- 10:35 Mistake #2: Personal Liability Bleeding Into the Business
- 11:49 Why Every Partnership Needs an Operating Agreement
- 13:34 How Business Disputes Turn Ugly Fast
- 16:41 Mistake #3: Using the Wrong Business Structure
- 20:47 Why “Just Set Up an LLC” Is Bad Advice
- 22:08 3 Steps to Protect Any Partnership
- 24:34 How Individual Protection Structures Work
- 28:03 Why Wyoming LLCs Offer Better Protection
- 29:41 How Charging Order Protection Works
- 32:01 How Proper Structuring Changes Your Risk Profile
- 35:20 Final Advice
- Share this with business owners you know
Resources:
Tax and Asset Protection Events
Schedule Your FREE Consultation
Full Episode Transcript:
[00:00.00] Intro:
[00:11.48] Toby: Hey guys, Toby Mathis here and today we’re gonna talk about three partnership mistakes that can literally wipe you out overnight and I want to kind of set the table and kind of go over a scenario. Three brothers get together they enter into a partnership. They’re doing flips and everything looks really great. Until one day the brothers come home and their accounts are all zero because they didn’t understand what we’re gonna be going over today. I brought in Eric Winkler. Welcome first off.
[00:44.96] Eric: Thank you for having me.
[00:46.96 Toby: Eric teaches. He’s a business advisor. He works with Anderson business advisors, but he teaches on this and he asked for a lot of years. How many years you’ve been doing this?
[00:55.00] Eric: 20?
[00:56.00] Toby: Yeah, you’ve seen a few things.
[00:57.00] Eric: A few, yes.
[00:58.04] Toby: Eric and I are gonna kind of go through and break down, what’s the risk? Eric has a ton of stories and I always like hearing real-life stories and I’m out you guys. Let’s start with the basics. Alright, Eric, what is a partnership?
[01:11.56] Eric: A partnership in the simplest terms is when two or more people want to get together on a venture. That venture could be flipping houses, it could be opening up a bakery. It doesn’t really matter what it is. It’s just two or more people getting together toward a common business purpose.
[01:26.16] Toby: Does it have to be in writing does it have to be an LLC? Does it have to be a limited partnership or anything like that? Or can I just you and me decide we’re gonna flip a house.
[01:36.22] Eric: Happens every day Toby. It happens every day. No, you do not have to have these things in writing. No, you don’t have to have all this documentation or entities. I mean think about how many people go in on something. On a business together and they decide that they’re gonna own this dry cleaning business together. There’s no contracts. There’s nothing. It’s a partnership.
[01:53.00] Toby: And why are people doing it?
[01:55.80] Eric: Good question. That’s usually the first question I ask partners. Why are you getting into this partnership? It’s a real question. The reason I asked that is because I’m trying to figure out what the motivations are. Most times in a partnership, what people are looking for is they’re looking to offset themselves and add for themselves.
[02:11.84] What I mean by that is there’s usually something that the other person is bringing to the table. Maybe someone has some time the other one has finances you get the idea you’re usually offsetting each other or complimenting each other in addition to that accountability partners because a lot of folks. I don’t know about you Toby, I’ve started a lot of things never really quite finished them because I lost interest. So many different reasons
[02:35.42] Toby: Let’s talk about this then. What do people misunderstand about the sharing risk of partnerships?
[02:44.16] Eric: Right. Going back to what you were saying. Can two folks get together and start a business together without anything in writing or structures? sure you can but,
[02:52.78] What you don’t realize is that all of your personal liability can bleed into the business and onto the other partner if there’s no separation.
[03:03.36] Toby: If Eric and I got together and we opened up a pizza shop and we did not do any sort of entity we didn’t do the right structure. We just, together, said we’re gonna be a partnership. We’re gonna file a 1065. This happens every day. Eric’s personal debts become my debts in a way. It could actually come right into the partnership. The partnership debts are also my debts like there’s a lot of risk.
[03:28.80] Eric: There’s a lot of risk and then the other side of it too is there’s no there’s there’s no stopping that liability, right? Toby, I mean you’re talking about my personal debts become yours and yours become mine. But what if one of the partners just kind of dips out. There’s a lot of debt in the organization, not the organization but the company and one person leaves. Well, you can be on the hook for the whole thing now.
[03:50.92] Toby: There was actually a story over at UNLV and it was a company that was on its way up. They had all these mentors coming in, judging, and they got together. An older person said, hey, I’m gonna show you the right way and they entered into it. They just opened up a business together with somebody. Then they took the money and ran to Hawaii. After everybody put money in. Then one of the partners just took off. That’s the part of partnerships that people don’t appreciate is you’re still on the hook for that. You don’t have a structure. You’re personally on the hook for that.
[04:20.56] Eric: You don’t really have any back getting your money back either. I’ve had a partnership situation where these two partners were 50/50 on the bank account and everything else. And one of the partner’s similar scenario. They took the money and ran so to speak. They consulted with an attorney and they’re like, well you guys are 50/50 partners. It’s half theirs. I mean technically they owe you half but good luck.
[04:40.88] Toby: Good luck collecting on that. It’s a marriage. That’s the thing about partnerships. If you don’t want to go in half cocked, you want to go in very orderly like here’s what I’m willing to share. This is my separate property type stuff. Like this, I’m gonna isolate the liability. I’m gonna isolate how we’re operating, here’s how the profits work. You could do all that using an entity. We’ll get to that. Alright, let’s talk about the brothers though because that was your story. I just stole it from you this lock stop But explain what happened there.
[05:13.58] Eric: Absolutely. There’s three brothers. They’ve known each other since college and they decided one day to go to a real estate seminar and they went to the real estate seminar and they decided that they were intrigued. They’ve already been watching HDTV. They want to be real estate investors and they feel like this is our thing.
[05:29.88] The three of them get together and they start rehabbing homes. They got really successful really quick. We’re talking in the span of two to three years, multi-million dollars a year. They got it. Whatever happened, right market, right time. Who cares it worked. They were happy. Fast forward. We’re two to three years into this and one of the partners their job is acquisitions.
[05:52.28] There’s a finance guy and then the contract guy. The acquisitions guy is looking for deals. He identifies another deal, talks to the finance guy, finance guys like yep, we’ve got it. We’re good. Let’s get it. They’re calling the bank, initiating the wire and the bank tells them it’s not funny. But it is, you don’t have the funds to do that. They’re like, what do you mean we don’t have the funds to do that? We have the funds to put a down payment on this property.
[06:19.12] We’re talking about a two hundred, three hundred thousand dollar property. Nothing crazy. We definitely have that in the bank account. You definitely don’t have that in the bank account. They hang up the phone and one of the brothers looks at gets online the finance guy that gets online. He’s looking, everything’s gone. The money is gone. There’s no money in the account. He’s looking at his partner.
[06:39.80] He’s like what’s going on? I don’t know. What did you do? Nothing. They’re going through the transactions. They call the third partner, voicemail. Call the third partner, texting the third partner, just goes on for about a week and they can’t get a hold of them. They’re like, well, did he run off with the money or what happened here? They’re thinking the worst and remember they’ve been like really really tight friends since college. It’s raising a lot of question marks. Finally in about two-three weeks the third partner comes back to the guys, hat in hand and he says, I’m so sorry, this is my fault. The third partner, remember the contractor?
[07:15.80] He is a general contractor and he was running a general contracting business before they started this partnership. Unfortunately, he fell on hard times. He got a lot of different, he had a lot of debt which generated a lot of lawsuits. Which generated a lot of judgments and they wound up the different creditors got judgments against him. As you know Toby if you have your name on bank accounts and they have a judgment all I have to do is judgment bank account with your name on it my money.
[07:46.60] Toby: Yeah, and so they went and they grabbed the partnership’s assets and so why was the partnership even liable because that was his personal debt. That was his personal debt. They didn’t isolate it.
[07:58.86] Eric: Because he was listed on that bank account. His name was on that bank account, they allowed the bank or the creditor, to take the assets.
[08:09.52] Toby: This isn’t even as a signer. This is because it was a partnership. There was no structure. There was no limited liability. They were on the hook. Let’s talk about this, at what point does this become avoidable versus unavoidable? Let’s say that you’ve been operating. There’s so many stories guys. Sisters get together and they start a business and then one of them does some stuff funky on the side brings in some liability. When does it become like hey, I can fix it.
[08:41.80] Eric: Early on Toby, I mean it’s got to be done in the beginning because this is not one of those things that you can call, I have a problem now and we need to fix this. This should have been an LLC instead of just Toby and Eric on the bank account.
[08:55.80] Eric: Yes, one that liability is incurred if it’s not already set up. It’s too late, left the barn. Let’s talk about the three mistakes because we want to go over three. What’s mistake number one?
[09:05.36] Eric: Mistake one number one is not isolating the business entity or just isolating yourself from the business.
[09:13.00] Toby: Explain why that’s important.
[09:14.72] Eric: We want to make sure that, remember as we were talking about in the beginning. If Toby and I go into business and own a pizzeria, my debts become his debts for the partnerships become ours. There’s just no separation of liability. The first step that we need to do is just separate ourselves from the company. The company needs to operate on its own. We’re protected from those liabilities. Let’s just start there.
[09:36.96] Toby: Somebody gets sick from eating pizza or they slip and fall. We have a pizzeria, we got some tomato sauce on the floor. Somebody takes a header and they sue. I don’t want my house to disappear, my retirement accounts, my bank brokerage accounts, my other assets, a bunch of my rentals.
[09:53.88] I don’t want those all exposed because somebody took a header in a pizza shop that I am a part owner. If we isolate the liability of the pizza shop, put it in an LLC corporation. Some sort of limited liability entity then we can isolate that so they can’t come after me. Is that right?
[10:12.84] Eric: Absolutely.
[10:16.36] Toby: When do you have to do that?
[10:19.00] Eric: In the beginning Toby. Unless you can anticipate when you’re going to have a problem or a lawsuit or someone’s going to take a header in your pizza shop. It needs to be done in the beginning.
[10:29.44] Toby: Let’s talk about risk number two or mistake number two.
[10:35.44] Eric: So that’s bleed over so bleed over of liability. Okay, it’s great now that we’ve set up an entity. Let’s call it an LLC just for our purposes right now. We set up an LLC. We’ve got our pizza shop, things are going great. But we still have that issue where if I have liability it could potentially affect our business.
[10:53.04] If I have debts from another business or personal debts, or medical debts, or anything like that. If I have a judgment against me that could still potentially harm the company because if they get a lien against the entity that can hurt us. I don’t want to bleed my stuff over to the business and that’s just financial liability. There’s so many other things that we’ll talk about a little later.
[11:15.56] Toby: There’s no way really to get like debt divorce. All sorts of court orders debt. All those things can affect the business. When you’re setting these up, that’s why it’s not as easy. Everybody thinks you’re looking at saying how do we address, for example, do I have to do a deep dive background check on all? If I’m gonna do business with somebody?
[11:38.44] Again, it’s kind of like you’re getting married. You probably wouldn’t do as much as you can but not everybody does. I just want to be able to sleep at night. I can draft some of that into an operating agreement for example.
[11:48.60] Eric: A 100% as a matter of fact, usually when I talk to people about this subject and I go into that and I tell them how involved it is and how you’re really getting married. It’s very close. Then I ask people, I was like, well, what now? What are you gonna be asking your partners? Firstborn child blood sample, etc. I get it. It doesn’t have to get that crazy.
[12:10.04] You can set it up so that you are protected. I mean you still need to do your due diligence on your partner. But you’re never really gonna know everything that’s going on in their lives. It’s more important to protect against that back to your statement about operating agreements. Yes, you need to outline things in the beginning. Things like how does this company operate, who’s going to be responsible for what, how are we gonna take profits?
[12:32.60] Oftentimes Toby, I know you’ve seen this a million times like you’re the money man. I’m the operations guy. You don’t have time, I don’t have money. Cool. Toby’s gonna put more money into the pizzeria. I’m gonna be tossing the dough. Now when we start taking profits does Toby get paid back faster? If we’re 50/50 partners, do I get 50% he gets 50% plus 10? or do I lose 10 to start paying?
[12:57.82] Toby: Are you getting paid?
[13:00.00] Eric: That’s a great question too. These are all very good questions.
[13:03.72] Toby: Who’s in charge? Who gets to make the decision? Is it managed by the members of that endeavor or is there a separate management company or is it one person designated? When profits are distributed are they pro rata, non pro rata?
[13:18.30] Eric: God you got to know this stuff in the beginning because what I’ve noticed is. When it’s hypothetical like Toby and I are talking about the pizzeria right now. If you’re starting your business you guys you folks are on the same page, right? You’re conquering the world. You’re going out to make your mark. This is the best time to have that conversation because in my experience as soon as you sprinkle a little bit of money or a little bit of problem into their emotion takes over logic drops out and now you’re not even communicating anymore. But if we have something written even if we disagree. We can at least have a baseline on how to operate this.
[13:53.08] Toby: I would say this is kind of like if you again using the marriage scenario. A lot of people go into marriage. Just everything’s hunky-dory. No prenup. No nothing and then divorce. Divorces happen in businesses, too. If you don’t have a written agreement on how that’s gonna look it could get just as messy and nasty. You want to have these things and you’ve mentioned death. We’re all gonna pass. If you have partners somebody’s gonna pass before the others.
[14:21.72] You better have something in writing as to how that’s gonna operate. Does the surviving spouse become a partner that makes decisions? Or are you able to buy them out? Are you able to prevent them from coming in and accessing the bank accounts and just shutting the thing down? All those are things that you need to have in an operating room.
[14:45.72] Eric: And preventing things that you may not foresee again. Twenty plus years of doing this and Toby can attest to this too. I could tell stories all day long. But just another example, what if your partner gets mad at you and. I’m smiling because it’s kind of funny. What if your partner gets mad at you and sells to like someone you really don’t like. There’s nothing to stop them from doing that. You can’t unless you have it inside of your operating agreement in agreement.
[15:10.84] Toby: I still remember when I was a younger attorney, there was a case where there was two friends and they were developing land and it was in Washington State and one of their friends was in his 50s and had a heart attack and passed away. The wife blamed the other partner and said it’s because of the pressure, it was because of the stress. She wanted to kill that deal and the other surviving friend, the other partner, was trying to continue that development.
[15:43.52] He was going to face complete financial loss, they were halfway through and she wanted to kill it, just kill it and she did. She did because there was no written agreement like I think they had a cruddy partnership. This was back in the 90s. It’s like before a legal zoom and all these others where you could just go grab a crappy agreement.
[16:02.48] Eric: You probably would have been better off without it.
[16:04.52] Toby: Probably bought a book and did it. The same difference. But it was just horrific. I remember it playing itself out over about two year period. He got blood dry because she could stop everything that they were doing and it was just a mess and it’s kind of like, we don’t like thinking the bad stuff before. But the best time to think about the exit before you enter the room you want to make sure that you have some sort of agreement. That’s what guys like Eric are for. Let’s go over mistake number three.
[16:34.16] Eric: Just the wrong structure set up from the get-go. Just not having things in place not having a proper structure. What does that proper structure look like? It depends, okay. It depends on if it’s an active business if it’s if it’s going to be for rentals? Is it gonna be for flipping homes? Is it for a pizzeria? The point being is the ideal structure is gonna I deal with the issues that we’ve been talking about. Separating ourselves from the liability, but then giving us our own freedom and protection from each other as well. We want to be protected from the business, protected from each other as well.
[17:11.00] Toby: where do taxes intersect in this?
[17:13.00] Eric: Great question because I’m sure you can attest to this too. I’m on the phone every day with business owners. I can tell you, we always talk about the four-prong approach, right? We always talk about it’s asset protection. We’ve got to worry about taxes, state planning, and business planning. Most of the time someone has their eye so hyper focused on one, the other three are just missing and destroying them and these are active business owners.
[17:39.88] I’m not gonna do another story, but if there was. Okay great another this is a great one. There’s another active business owner. He is concerned about one rental property. Okay, he has one rental property. You should be, that’s fair, but wait till what you see where I’m going with this. He has three operating businesses through three different states. Towing companies with vehicles and people driving these vehicles as a sole proprietor.
[18:08.00] Toby: and he’s worried about the one rental property.
[18:10.88] Eric: It gets better that rental property. It’s a family member. We should protect that.
[18:19.00] Toby: What about the real life?
[18:20.00] Eric: What about this stuff over here? To your point though, we were talking about where does the taxes intersect it? That’s gonna intersect, that’s why I said it’s gonna depend how we set things up. Just running out there and setting up an LLC. It’s not really gonna answer your questions for you. It’s not gonna solve your problem for you. You really need to take a look at the nature of the income.
[18:38.18] But you also need to look at the nature of the individual that you’re setting it up for too. Just a wacky example. Let’s just say we set up a partnership and we determine that. This is going to be for flipping home. You and I are gonna flip homes. We’ve got our LLC, how do we own that LLC? My answer might be different than yours. You may be trying to keep income away from your personal tax returns so you can do other things.
[19:04.44] Toby: I have it as a c-corp.
[19:06.80] Eric: You may have a C-corp. I may have as an S-corp because I need it to flow through so I can actually qualify for more funds. It’s very individualized you need to have a conversation with somebody.
[19:15.76] Toby: Just gonna re-emphasize the four points because you really are looking at asset protection, one so people get really focused on that. Which is nothing wrong with it. Just don’t ignore the other three. Tax because if you set up an LLC, especially if we’re doing a business. Pizza shop, for example, we have choices. We have a partnership. We have an S-corp, w have a C-corp. Even if it’s just an LLC I can choose any of those I could be a traditional C-corp.
[19:40.44] I could be a traditional corporation. Make an S-election, all of them have pros and cons. Which is why you want to talk to somebody who actually knows what they’re doing. But here’s the thing, setting up an LLC if you just get that. That tends to be horrible advice because beyond tax then we look at business planning. Is it gonna get credit? Is it gonna hurt you like everybody wants to have a zero tax bill?
[20:05.88] Learn they can’t get a mortgage and it’s really difficult if it’s a separate business. Maybe I’m better off being taxed is one way over another and then from a state planning standpoint. What happens when one of those partners passes away, seeing this happens so many times were families end up inheriting businesses and only like there’s three kids and one of them was in the business neither two weren’t.
[20:29.08] The two that weren’t of course say sell everything and the other one says I want to operate it and you end up with a mess if things aren’t in writing. Is it really just? Horrible advice to say just set up an LLC.
[20:40.40] It’s horrible. I’ve got to do it because this just happened three weeks ago. I had a client that I was speaking to and that was the advice that they were giving by a rather famous real estate person who does education and training. They said all you need is an LLC. Let’s back it up. This is four partners,four partners are involved and they’re buying trailer parks.
[21:02.12] They’re buying five trailer parks in Texas and their advice the advice that they got was just set up an LLC. Thankfully one of them, the money person, of course said, you know, that doesn’t sound exactly right. He booked the consultation with us. I had the consultation with him went over the structure that I would set up for him. He got his other three partners on the phone. He’s like if you want to work with me, this is the way that we need to set it up.
[21:27.36] Toby: He’s the money guy. Sometimes when you’re non money guy, they’re looking at you like, you want to look at all four. That’s just make sure. Let’s talk about three steps to make sure that you’re success. Again, I like simple rules, can you go over three steps so that somebody knows? How do I do this? How do I set these things up? How do I make sure that? I don’t make a mistake. I don’t know what I don’t know. How do I make sure that I’m addressing everything?
[21:55.64] Eric: Step one is, you want to set up the partnership entity. This is what we were talking about originally is making sure that we’re separated from the liability of our business. Whether that’s being a rental property pizzeria that we keep going back to. It doesn’t matter what the business is. We want to be separated from whatever that business is doing. That would be the first step.
[22:13.28] Toby: And it might be different. If it’s an active business versus if it’s a passive. For example, I just own a brokerage account and I’m partnering with my family office, my corporation. Maybe you and I are just buying real estate. Maybe we’re flipping real estate all those factors.
[22:33.04] Eric: All the different structures what we set up will change constantly. But setting up something won’t. I want to bring this up before I forget it because we’ve been talking about so many good things. For any of you out there that are thinking well, I’m partnered with my family. So that’s okay. It’s worse than telling you hands down, much worse than partnering with a stranger. I’m not telling you not to partner with your family. I’m telling you to set very, very abundantly clear expectations, day one because they will come back to bite you if you don’t.
[23:05.96] Toby: Because whenever you add emotion and money it tends to get ugly when there’s a dispute and just look at every divorce that’s out there with family members. You can’t divorce your family, but you can certainly feed each other up like you’re getting divorced.
[23:19.36] Eric:And the expectations, right? You have and just like employer employee. We have certain expectations and you may exceed them in your head. But you can’t in real life, but with family members, we do it all the time.
[23:30.00] Toby: All right number two
[23:31.44] Eric: Number two is the individual protection. Now we’ve got the partnership protection. We need to have individual protection. What we set up is going to change whether it’s active or passive or broker and what are you doing? But what the bottom line is that a good core philosophy that I’ve gone with is we need to be separate but equal.
[23:48.38] Okay, so we want to have the protection. We want to have our company. But I don’t want to be in Toby’s business and I sure as heck don’t want Toby in my business because it’s none of his business. The pizzeria is our business, but then when we take the distribution of profits. What are some of the things I’m talking about once we take the distribution of profits? Everything flows into my company and everything flows in his company. Maybe I want to hire, I want to fund my kids IRAs. Maybe Toby doesn’t have any kids.
[24:14.06] Maybe I want to set up a self-directed solo. I want to set up a solo-K for myself. Toby’s not really into solo-K into real estate. We don’t even have to have these discussions. We can as friends, but we don’t have to do them as necessarily like this are our funds. This is what we do. We have that freedom to do what’s going on. In addition, especially with real estate because I know a lot of the people we talked to our real estate investors having that freedom as well.
[24:40.22] Because if you think you’re not going to disagree, you’re clearly mistaken or you haven’t spent enough time with one human being long enough because you will disagree. This gives you the ability to disagree and stay very strong as a partnership. We’re in a partnership. I want to invest in this property. You don’t think it’s a good time and it’s not a great idea. I can use my company and invest in that property and doesn’t affect the partnership doesn’t affect us.
[25:07.00] Toby: By the way, this is why you have a good operating agreement because if it’s an opportunity for that LLC you better make sure that it’s spelled out. That you guys don’t have to run everything through the LLC, that you’re able to go do your own things. Otherwise, you’re gonna find a nasty lawsuit. Again using an online service or something a standard operating agreement and I and I do something funky.
[25:28.52] You may have just locked yourself into. I get 50% of anything else. He does because we’re partners in real estate and you’re like, hey you had other opportunities you needed to bring them to the partnership. I want that and I’m like, hey, no, no, I was doing my stuff and you’re doing your stuff.
[25:46.68] Eric: The big selling point for, I know I’m going back and forth a little bit here. We are talking about the money guy who set up his partnership. One of the big selling points for him was they’re gonna need some they don’t need financing right yet. But they’re going to need financing to continue the growth that they want to do and I said, well, it’s great. What you should be focused on is trying to build credit for the business. It’ll take time and all this other fun stuff.
[26:10.12] We had that talk but it’s a good goal to have start doing it in the business start establishing it there. He was on board with it and I was like, whoever told you to just set up the LLC, what did they say in regards to financing so all three or four of us are gonna go on the credit application. Because if you walk into a bank and say hey all four of us are partners.
They’re gonna hand all four of you an application.
[26:32.28] A couple things wrong with that and that are gonna shoot you in the foot. First of all, you’re tying all your guys’ credit liability together, which I think is a bad idea. But what you’re also do is, you’re shooting yourself in the foot. What I mean by that is you’re getting actually 25% of the credit power that you could have had if you’ve separated things out. If each partner started building their own credit, they could always loan that to the partnership. You quadruple their buying power just by keeping those separations.
[26:58.88] Toby: I think what you might be hitting on and I think that doctors practices a lot of times. They’ll set up a partnership and LLC tax as a partnership, usually a professional entity, but each owner of that interest might be an S corp. For that individual doctor, you could develop credit in each one of those. Let’s say you have a practice of 10 doctors. Why just do one when you could do 10? and then yes, they could use it to benefit the partnership together.
[27:28.76] But hey now they have a lot of autonomy is what they could do. There are some non-discrimination rules if you have a bunch of employees. But for the most part of it like if Eric and I were just doing a pizza shop together and we didn’t have a bunch of employees and things I have a lot of autonomy to do with whatever portion of the profit comes to me. You have autonomy to do with yours. Now last step. There’s a third step there. This is a big one.
[27:50.72] Eric: This is probably one of the biggest, right? This is all very important. But the jurisdiction where you set your company up is gonna dictate how well any of this works for you. Because if you set it up in California, there’s 27 different ways to pierce the corporate bail. It’s pierced over 50% of the time.It’s like going to court and flipping a coin. Whether you’re gonna have protection not win or lose just protection.
[28:16.06] Jurisdiction is really gonna come into play here. Especially for the individual elements. I mean typically it depends, everything depends on the business. But our example pizzeria we’re in Nevada. We’re gonna set up a Nevada entity for that now for our individual entities. I’m setting up Wyoming. I’m going Wyoming because I want some autonomy and in my circumstances because I’m not gonna be doing anything active with it.
[28:38.68] I want some autonomy. I know we have plenty of videos out there about Wyoming. Wyoming does not require us to disclose the managers or members. We do have some privacy there. But more importantly you have charging order protection. That’s the big one. Remember in the beginning the original story we started with, what could have protected these folks from the bank account getting wiped out.
[29:00.48] If they had a partnership and each of them had their own Wyoming entities. That would have stopped it right there because of the charging order and if you’re not familiar with charging order. The way that it works is so if a creditor has a judgment against me. The most they can hope for is the charging order against the Wyoming LLC and I have to start satisfying that judgment as I pull profits out of the company.
[29:20.82] Toby: Basically a lien against the LLCs profit interest. What that partner receives, right?
[29:28.50] Eric: Whatever profit I pull out of my LLC, they can’t go up to the partnership bank account. They can’t even take the Wyoming bank account. They can get a lien against the LLC.
[29:38.76]Toby: That’s it. You distribute the profit. Nobody does this by the way because they don’t get anything. It’s exceedingly rare. Usually it settles it, because the attorneys on the other side generally a contingency fee. Or they don’t, people just don’t want to throw good money after bad. If I can’t guarantee that I’m gonna get paid, I’m not gonna go down that road.
[30:00.42] But a good way to think about it is, Eric and I, partners. I don’t want to know his business. He doesn’t want to know mine. I want to protect myself. At a minimum, I could say hey,Eric, you said the partnership itself, the LLC that we set up might be owned by an LLC that he owns. I have one that I owned the K-1’s go to those. I don’t need to know. However, you want to get tax, it is up to you.
[30:25.36] But I also know, that’s the party, that’s where it stops. If he has personal liabilities and he’s owning it through a separate LLC in Wyoming. For example, I know that he could run into a busload of nuns and I’m not gonna have to deal with the aftermath. He could get divorced. I’m not gonna have to deal with the aftermath. I have certain protections. Not just because of the partnership entity we set up the LLC that’s owned.
[30:53.32] But also because the individual ownership of those is set up the right way and for those you guys are like, oh wait I gotta do syndications and things like that. A minimum is have a living trust. At least you’re not involving your future generations to having to deal with the group. They don’t like to have to deal with it on a personal level when it’s a small entity. Your partner doesn’t want to have to deal with it. Trust me on that one. Does that charging order then change the risk profile of the endeavor if you and I were going into business?
[31:29.04] Eric: It would for me and I’m sure it would for you as well because as your partner now, I know the liability is really with the pizza shop and that’s pretty much it. Whatever you’ve got going on in your life. It’s not gonna bleed through to the partnership or me.
[31:44.04] Toby: Let’s go back to the three brothers. They would have been very well-served to have something in writing if they had the base LLC for the most part. I don’t know where they were located. Remember where they were doing. If you can use Wyoming and then register it in your state. But generally the better way is to have you know in state and then the ownership of that in-state entity might be the Wyoming entity so that you’re protecting the business from you.
[32:12.84] You’re also protecting you from the business you’ve created two steps for anybody to actually get into your personal affairs. Believe it or not entities periodically in some states do get pierced. Well now they’re stuck in Wyoming, right? Anybody ever says well, I’m in California. You can’t do anything for me. It’s like well, yeah, actually, if you own it and you’re in California, the judge is looking at you. You’re in the same court if it’s Wyoming.
[32:37.10] We just create another layer where they get to go travel and it changes the whole dollar about and how that thing works. But what if somebody is in a partnership right now? What if they’re structured? What can they do?
[32:47.56] Eric: Yes, if you’re in a partnership right now and you’re looking at this, you know, biting your nails. That’s good. I mean you probably should call us. You can type consult in the comments below and we’ll reach out and make sure that we set up a consultation with you. More than happy to take a look at any documents that you may have already gotten together. Don’t despair though, I’d rather call, find out and have the conversation.
[33:12.12] Hey, here’s where I’m at. What do you think? We can take a look at what you have. We can make recommendations. We can beef up what you had remember. The only time we really can’t do something is like you’ve already directly been sued in your operation. Even then I wouldn’t say don’t call, call because what if it happens again. We want to make sure that you’re gonna have those protections.
[33:33.40] Toby: You could still proceed.You proceed with caution even under that circumstance. It always depends on whether it makes you insolvent the claims and it’s doing structuring. Even after the fact doesn’t automatically mean you’re toast. It means you got to be very careful about their avoidable transactions and fraudulent transfer rules things like that. But it’s not a death. No. Hey, I can’t do anything. No, you can still do a reasonable business planning. It may not protect you from those claims. Just know that.
[33:57.36] Eric: Protect you moving forward and then you have a very clear blueprint of how the business can operate, anyways, or any other issues that you may not have thought.
[34:04.04] Toby: Yeah, I guess I would say that even if you’re in deep doo-doo now. Don’t delay. A lot of lawyers, be like up sign, are you done? No, that’s not the way it quite works, but you just have to be very cognizant of what the claim. Is it a real claim? Is it frivolous? What’s the amount that’s a claim because if you’re getting sued for 20,000 bucks and you got two million dollars. It doesn’t mean you’re frozen.
[34:26.60] As long as you don’t make yourself insolvent and try to move it all but if they still have recompense. Recourse against you have other assets. You don’t have anything to worry about. Alright, so you mentioned you can always type in consult and talk to somebody talk to Eric to see whether or not. What your situation is and what your options are, that’s usually where it is. It’s like, hey, there’s a B and C. Here the different flavors is the type of thing you can do.
[34:49.94] And if you know anybody who’s getting into business or you know somebody who’s in business with partners and you’re like, oh no, I know that they’re just doing it on a handshake because they got that mentality. Share this video with them and then like and subscribe and we’ll see you guys later.
[35:04.68] Outro:
