Will a corporation protect me from all liability?

QUESTION:

I’m the Chairman and CEO of a small startup. Will a corporation really protect me from all liability?

ANSWER:

Russell Greenman

by Russell Greenman at Raines Feldman LLP

One of the main advantages of incorporating a business (or forming an LLC) is to limit your personal liability for the debts/obligations of the business resulting from judgments or general debts to creditors. This protection, however, can be lost and without careful management you could be held liable for certain obligations of the corporation. Some things to look out for:

Personal Guarantees – Sounds like what it is…someone guaranteeing the debts of a business. When you personally guarantee a debt, you take on the obligation to repay it. If you can avoid it, do not personally guarantee anything!

Piercing the Corporate Veil – As a result of a legal proceeding (lawsuit or otherwise) the court may, upon review of your corporate practices, determine that the entity has not been run correctly and, as a result, disregard the protections traditionally afforded to corporations (or LLCs) and hold the owners of the corporation (or LLC) personally liable for the entities debts/obligations. The process described above is overly simplified and in order to pierce the corporate veil it must be shown that the entity was run in a manner that offended certain basic legal tenants. The laws will vary from state to state, but the most common arguments are:

– Formalities – Failure to follow corporate formalities in order to avoid being deemed a “legal figment” by th courts.

– Co-mingling – If the assets of the entity are treated like the assets of the owner, there is a strong possibility that if the entity is challenged the veil can be pierced.

– (Mis)Representation – A corporation, in the eyes of the law, is its own legal entity. By signing for business assets, liabilities or accepting monies in a personal capacity (as opposed to a corporate capacity) you may run into issues. All contracts should be signed in the name of the entity and all revenues should be issued to the entity name and deposited in the corresponding bank account.

Criminal – Business entities protect you from civil lawsuits and NOT criminal charges.

Negligence – You may face personal liability in the event you were negligent in the operation of a business.

Each of the above referenced circumstances is VERY fact specific. While there is not a way to protect you from ALL liability, there are steps that you can take to limit your liability significantly.

Tip: Consider using a filing service such as Legal Zoom where they file all the documents with the state, get your record book, and more.