The Executive Suite: Asset Protection and Physician Family Businesses

Physicians doing business with family members as co-owners, investors, or lenders face a variety of legal and financial risks. This checklist outlines some of the most common issues every doctor should address to protect their assets and their relationships.

Our last discussion outlined some of the reasons that physicians routinely end up as defacto family business owners and how a lack of formality in how that business is legally organized, managed, and owned often creates liability and intra-family conflict. This business relationship takes many forms including business loans to family members, hiring a family member to a run a business you own, being a passive investor in their business or co-owning a business or other asset (like real estate) with both capital and operational contributions.

Regardless of the specifics, you have more to lose than just the money you invested up front. Consider the following business planning checklist the bare minimum and then apply your own fact pattern for any industry specific risks.

Document Loans and Secure Your Interest While there are certainly many advisors that take the position that you shouldn’t do business with family members and should never lend family members money, many physicians do so out of both family obligation and in search of a return on their investment. If you are making a business loan to a family member, it’s important to carefully document the loan in a way that, as a minimum:

Memorializes the borrower’s acknowledgment of the amount of the loan and the repayment term or obligation
Addresses the minimum applicable interest rates and other terms of the loan required for the loan to be legitimate and legally compliant with IRS tax and gifting rules
Provides a security interest for the loan that can include a collateral interest in the business’ assets, income and receivables as well a personal guarantee from the borrower
Beware of Credit Obligations and Co-signing. In some cases you are lending your existing capital, in others you may be assuming debt obligations directly for capital or to finance the purchase of an asset or going business, either as a owner or partner or simply as a guarantor. Consider the risk carefully and be sure you understand if you are guaranteeing only a portion of the loan or if you can be collectible for the entire amount and if you are financially and legally prepared for and can survive a possible default.
Have a conversation about money, then write it down. It’s important that both parties explicitly understand their roles and the expectations about compensation and profits. If you have a family member running a business that you own as your employee, agree to a rate of pay and make that relationship formal and legally compliant with all tax, wage and labor laws. Conflicts often arise when an operator thinks their salary is a “draw” or that their labor includes an equity position because these issues were never clarified.
Formalize your ownership with paperwork. As an owner or investor you need legal documentation of your interest in the form of LLC membership interest or partnership or s-corp. shares, etc. for tax, legal and estate planning purposes. Without this paperwork the business does not belong to you despite any understanding or agreement you think is in place and will go the estates and creditors of the business’ official owners. This is especially true if your family is unaware of the details. Co-owned entities also need operating agreements that outline the owners’ agreements on operation, governance and profit sharing among other details. Your brother-in-law merely recording the LLC for the motel that you financed isn’t enough.
Have a Separation Plan. Not every relationship is forever and if your family business is a partnership it needs a buy sell agreement just like any other that covers the basics like the ‘Five Ds’; the death, disability, departure, divorce or disqualification.
Have a Continuity Plan. Many family businesses end or suffer when an operating partner or key employee that manages the business for their physician partner dies or is disabled. Consider how and if the business would continue and risk management like key man and disability overhead insurance.

The details of successful family business operation fill books and magazines. This covers only the most basic issues and can’t replace professional guidance about your facts that can help protect both your investment and family harmony.