Basic Rules for Protecting a Business

Basic Rules for

Protecting a Business

Don’t know where to start?
Here are some basic guidelines to follow when looking to protect your small business.


Always Protect the Costs-to-Stay-Open-for-Business first

The costs to stay open for business are the 'fixed overhead costs' and are often contractual in nature. Make sure you have 12 months of fixed-cost funding on hand, just in case, so you can have a business to come back to after you recover from an unexpected sickness or accident, or so you can have an active business to sell as an ongoing concern if you have not yet recovered after 12 months. Insuring the Fixed Overhead Costs reduces the risk to a small business.


Always Protect the Key Revenue Maker

The biggest risk to a small business is usually its overreliance on its Owner. Whether the Business Owner, a Specialist Expert or a Key Person, most businesses derive the bulk of their revenue from a few key individuals.

Insuring the Key Person to the business protects a business from the financial dips that can occur if there's an unexpected loss of an owner, manager, partner, or skilled employee through sickness, injury or even death.


Always Protect the Business Debts

Businesses use debt to start-up or to grow. Whether these funds are supplied by the owner (Directors Loan Account) an external funder (using 1st mortgage security over property assets) or investors (usually a combination of mortgages and Director Personal Guarantees), nothing stops a business like an unexpected and immediate call-up of debts, well before they're expected to be repaid. Nothing stresses a business and its suppliers as having difficulty meeting its loan and debt obligations. Insuring the Business Debts & Liabilities from sickness, accident, or even death of the Owner, Business Partner or Key Person reduces the risk to a small business.


Always Protect the Business Ownership

Owning a business in Partnership with another means all the Partners need to protect their portion (equity investment) in the business to make sure the future control of the business stays with them. A forced change in ownership, due to one or more of the partners unexpectedly suffering a motor vehicle accident, ill health, or even death and then selling their shares, could destabilise the business ownership and risk its future. Protecting business ownership with a Partnership Agreement, Company Powers of Attorney and Insuring the Business Ownership, help reduce the risk to a small business.


Find a Risk Adviser specialising in working with Small Business Owners and their Families

Protecting yourself and your family from the risk of running a business is key to business and family harmony (and peace of mind). This is because small businesses and the families that support them have different risks, liabilities, and time constraints than average employee-based families. The team at Sapience Financial specialise in working with small business owners and their families, Sole Traders, Partnerships and Multi-owner business, and their Companies to help them protect themselves from their business.

What is a Loan to Company agreement document?

The question that no business owner wants to ever hear is, Was this a 'loan to the company' or 'was it an injection of equity', and 'where have you documented that'?

A Loan to Company Agreement is a legal document designed to make a clear distinction between what's considered a loan to a company, and what is an injection of equity, into a company.

The ATO has a set of tax rules about Equity Injections v Loans that started on 1 July 2001, called the Debt and Equity test.

Pro Tip: If money moves from you to your company the default position is that it is an injection of cash. It is not a loan. Undocumented money into a company is treated as an injection of cash as equity. Not as debt.

Important for Partnerships (especially Undocumented Partnerships)

This distinction between a repayable loan and a non-repayable injection of equity is particularly important for Business Partnerships, as some partners may anticipate any cash they 'lent' to the business over time, will be repayable to them when they exit the partnership (or will reduce the purchase price if they buy out their partner later).

The other business partner may assume all money brought into the company to help with cash flow was only an equity injection; and therefore not repayable ever. This has tax planning considerations and can affect the valuation of a business, so start speaking with your Accountant to learn more about your position.

Associated reading:

Documents may need to be refreshed after a set period of time (different in each state)

Company loans ‘expire’ every 6 years so there is a risk that over time it stops working. In Australia, each State and Territory has a Statute of Limitation and your loan to a company goes ‘stale’ or ‘expires’ if no repayments are paid or none are demanded.

The Loan to Company limitation periods for each Australian State and Territory for unsecured loans are:

  • Australian Capital Territory: 6 years
  • New South Wales: 6 years
  • Northern Territory: 3 years (the odd one out)
  • Queensland: 6 years
  • South Australia: 6 years
  • Tasmania: 6 years
  • Victoria: 6 years
  • Western Australia: 6 years

So in the Northern Territory, business owners need to diaries every two years to build a Deed of Recognition of a Loan.

For all other jurisdictions, you have 6 years before your Company Deed of Loan is barred by the statute of limitation. In that case, diarise every 5 years to re-build a Deed of Recognition of a Loan. And sign it to freshen it up before the 6 year period. It starts the 6 year period running again.

Why documenting a loan to a company needs to be clear (and Not an IOU on the back of an envelope)

Company Deed of Loan on the back of an envelope - surely not?

In the movies, (and nightmares of accountants and bookkeepers) 'IOUs' are often handwritten and on the back of an envelope. Sometimes, instead of a Deed of Loan Agreement, someone documents a company internal ‘minute’, and files it away, somewhere. Both fail. Read the case of Rowntree below.

Case Study Rowntree v FCT

The case of Rowntree v FCT [2018] FCA 182 shows the additional care required to document even simple related-party transactions. This includes loans.

In this case, the taxpayer, a practising NSW lawyer, claimed he borrowed over $4m. This is from his group of private companies. The Court said:

‘Mr Rowntree has not deliberately chosen to ignore the law. His evidence presented to the Tribunal suggests that he genuinely believed that there were arguments to support his view that a loan was in existence.

He failed. Only a legally prepared Deed of Loan of a company satisfies the:

  • Australian Taxation Office
  • Bankruptcy Courts, and
  • Family Court

How we can help

Loan to Company Agreements are an important part of protecting the safe return of money lent to your company.

Contact us for a confidential chat about your needs.

Related: Key Legal Documents for Business Owners

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