Business Liability Legal Tips for Entrepreneurs
July 7th, 2015
Piercing the Corporate Veil
What does it mean to “pierce the corporate veil”?
This is an action taken by courts when a legal controversy calls into question the legalities of a company based on actions or inactions of the company or its officers, members or representatives. When a court pierces a company’s corporate veil, the owners, shareholders or members of a corporation or LLC can be held personally liable for debts and liabilities incurred by the company. This means that creditors can pursue the personal assets of these individuals, including their homes, investments, bank accounts, and personal property to satisfy debts owed by the company.
There is a strong presumption against piercing the corporate veil, meaning that courts are hesitant to do it unless truly called for. The corporate form is generally respected and treated as a separate entity unless there have been some serious acts of misconduct usually including intermingling personal and company assets, under-funding the business, ignoring corporate formalities, blurring the lines between business and personal actions, or otherwise intentionally using the corporate form to attempt to benefit from the protection while avoiding financial or legal obligations, promoting fraud, injustice or illegalities.
While law may vary from state to state, these are generally the factors that are consistently present in instances where a court pierce’s the corporate veil of a company (with usually several of these factors present at a time.)
Best Practices for Avoiding Piercing the Corporate Veil
- Maintain the appropriate corporate formalities, such as issuing stock or membership certificates, holding the requisite meetings (and keeping minutes), creating and regularly updating bylaws, maintaining a stock transfer ledger, holding initial and annual meetings for both the board of directors and shareholders, keeping up with annual filings, paying corporate taxes, and formally approving any documentation or transactions between the corporation and its shareholders. LLC requirements are less stringent, but still require certain key formalities such as keeping up with annual filings, regularly updating the operating agreement when necessary, holding initial and annual meetings, recording minutes, and keeping proper financial records.
- Maintain separate financial records for your business and yourself. Upon formation of your business, set up your business account and maintain proper records. Do not co-mingle funds between business and personal accounts. If you must “borrow” money from your business to pay personal expenses, keep accurate records of the transaction, including when you paid it back. Some attorneys would even recommend charging yourself a reasonable interest rate on the loan.
- Do not underfund or undercapitalize your business upon formation, or at any time cause it to pay you an amount that renders it insolvent. Keep records documenting the reason for large payments to shareholders or members.
- Do not personally guarantee the debts of your business, including verbally. Do not tell creditors that you will personally be responsible for any business obligations. Do not sign contracts that are really intended for your business in your individual capacity – make sure all contracts entered into on behalf of your business properly identify your business and do not list you personally. Keep your business and personal obligations separate and do not blur the lines.
Piercing the corporate veil is not required when you do things rendering you personally liable for your own unlawful actions, including negligence in your daily activities, saying or writing something defamatory, or causing some other harm unrelated to your business and for which personal liability exists. You will be independently liable for these actions, which means that even if your business is also liable, a plaintiff may also obtain a judgment again you personally and satisfy that judgment by collecting from your personal assets.
For more information on Business Structure, see the following blog posts……
DISCLAIMER: THE INFORMATION PROVIDED IN THIS POST MAY CONTAIN LEGAL INFORMATION, BUT DOES NOT CONSTITUTE LEGAL ADVICE. NO RELATIONSHIP, INCLUDING ATTORNEY-CLIENT RELATIONSHIP, HAS BEEN FORMED AS A RESULT OF THIS POST. YOU ARE ADVISED TO SEEK THE ADVICE OF AN ATTORNEY LICENSED IN YOUR STATE IF YOU HAVE ANY QUESTIONS.