A main reason business owners form a corporation or limited liability company (LLC) is because they hear that there is “limited liability.” Most business owners interpret this to mean that whether they are a shareholder in a corporation or a member in an LLC that they will not be personally liable for any business debts if creditors come knocking on the door. Although a corporation or an LLC is a separate legal entity, sometimes courts will hold owners, shareholders, and members personally liable for business debts, and this is called “piercing the corporate veil.” This means creditors can go after the owners’ home, bank account, investments, and other assets to satisfy the corporate debt. Owners, shareholders, and members can follow steps to attempt to avoid this situation.
Owners, shareholders, and members should follow this non-exhaustive list of tips to minimize their risk of being personally liable in order to protect their personal assets:
- Follow the necessary formalities required of the type of business entity you have formed. This includes drafting the appropriate documents that demonstrate and regulate ownership and the functioning of the business entity, holding annual or more regular meetings, and keeping accounting and other records for a minimum of seven years.
- DO NOT “comingle” business accounts or assets with personal ones. Most issues with comingling funds arise when a business owner uses the business account to pay his or her personal debts, or vice versa. Avoid depositing payments made to the company into your personal account, and use business accounts to pay only business debts and expenses
- Ensure that there is adequate capitalization for the business. Make a reasonable initial investment in the business entity so that it is adequately capitalized for its intended purposes and document incoming capital.
- Publicize the status of your business entity. This means ensuring that you use the appropriate letter designations on business cards, invoices, bank accounts, and other documentation that you use to advertise or conduct your business.
- Ensure the company does not conduct wrongful, illegal, or fraudulent behavior. While this is certainly the most common-sense piece of advice, there are activities you may not think would fall into this category that courts in Illinois have. Avoid recklessly borrowing and losing money, making business deals knowing the business couldn’t pay the invoices, or otherwise acted recklessly or dishonestly.
Please remember, this is a non-exhaustive list and other steps can be taken to protect your personal assets and maintain your limited liability status. Keep an eye out for our next issue where we discuss how an LLC has advantages over a corporation in several areas.
