Ring-Fence: Definition & Overview

KEY TAKEAWAYS

• A ring fence is a legal or virtual barrier that isolates something from its surroundings.
• The term is most often used in the UK to refer to the separation of commercial banking activities from investment banking activities.
• After the 2008 financial crisis, the UK government implemented reforms to protect consumers. They achieved this by ring fencing banks’ retail operations.
• Ring fencing can also refer to the practice of setting aside a portion of assets or profits in order to guard against future losses.
• It can also be the act of forming two entities to protect the company from things like bankruptcy.

What Is a Ring-Fence?

A ring fence is a legal virtual barrier that separates a company’s assets. It protects a company’s core business from the risk of its subsidiary businesses. The term “ring fence” comes from the fact that the assets have protection via a legal barrier, much like a fence that would surround a property.

A ring fence is often put in place to protect a portion of assets. This could be its patents, trademarks, and other intellectual property. It can also protect a company’s core business from the risks associated with its subsidiary businesses. For example, if a company’s subsidiary goes bankrupt, the ring fence will help to ensure that the parent company’s assets are not at risk.

Ring fencing can also serve tax purposes. For example, a company may choose to ring fence its profits in order to avoid paying taxes on them.

How a Ring Fence Works

When a company employs a ring fence, it creates a barrier between its core and non-core or risky operations. A company forms this virtual fence when it wants to protect its core business from the volatile nature of its non-core business.

There are a few different ways that a company can go about setting up a ring fence. The most common method is to create a separate legal entity called a special purpose vehicle (SPV) for the non-core business. This new entity will be ring-fenced from the core business in terms of both ownership and control. The new entity will also be responsible for its own debts and liabilities.

Another way to create a ring fence is through offshore accounts. Companies use this method when they want to protect their assets from creditors. By placing their assets in an offshore account, the company can effectively shield them from seizure.

A third method of establishing a ring fence is through the use of trusts. This can be an effective way of protecting assets from creditors, but it can also have its disadvantages. For example, if the settler of the trust dies, the trust may dissolve, causing the transferred assets to go to the beneficiaries. This may not be what the settler intended.

Types of Ring Fences

There are two types of ring fences: informal and legal. Informal ring fences are when a company doesn’t put legal action in place. Rather, the company may put informal policies or procedures in place to keep certain information within the company.

For example, a company may tell its employees that they are not allowed to discuss certain information with anyone outside of the company. While this is not a binding agreement, it is still an informal way to keep information within the company. 

A company makes a legal ring fence when it takes legal action to keep certain financial assets within or outside the company, for example with an offshore banking account. In this case, the company would take legal action to ensure the money in the account is reserved for certain purposes. Furthermore, only certain people in the company may access the account.

In some situations, a company may use ring fencing to avoid bankruptcy. This is the action of putting certain assets or liabilities into a separate entity. If the company goes bankrupt, the ring fenced asset pool or liabilities will not be part of the bankruptcy.

What are the benefits of ring-fencing?

There are several benefits to ring-fencing:

1. It can help to protect a company’s core business from the risks associated with its other activities.

2. It can help to insulate a company from the potential consequences of its subsidiary’s failure.

3. It can help to ensure that a company’s assets are for the benefit of its shareholders rather than its subsidiary siphoning them off.

4. It can help prevent a company from being overtaken and controlled by its subsidiary.

5. It can help promote transparency and accountability within a company.

6. It can help reduce potential conflict between a company’s shareholders and subsidiary stakeholders.

Summary

Now that you know about ring-fencing assets, you can use them to benefit your business. Keeping core business activities separate can protect you from financial troubles. When done correctly, a ring fence can be a valuable tool for any business.

Written by Sandra Habiger, CPA

Sandra Habiger is a Chartered Professional Accountant with a Bachelor’s Degree in Business Administration from the University of Washington. Sandra’s areas of focus include advising real estate agents, brokers, and investors. She supports small businesses in growing to their first six figures and beyond. Alongside her accounting practice, Sandra is a Money and Life Coach for women in business.

Written by Sandra Habiger, CPA

Sandra Habiger is a Chartered Professional Accountant with a Bachelor’s Degree in Business Administration from the University of Washington. Sandra’s areas of focus include advising real estate agents, brokers, and investors. She supports small businesses in growing to their first six figures and beyond. Alongside her accounting practice, Sandra is a Money and Life Coach for women in business.