There are many advantages to incorporating a business. One of the most notable is the ability to protect yourself from personal liability. In theory, if the business is sued, your personal assets are protected.
Or are they?
There are some instances when another party may seek to break through the protections offered through incorporation or formation of a legal entity such as an LLC. If successful, the party has executed a legal practice referred to as “piercing the corporate veil.”
Successfully reaching the assets of a business owner is not easy, but it is possible. Three examples when a party can successful pierce through the corporate veil and hold the business owners or shareholders liable include:
- Intermingle. It is important to keep the business and personal life separate, as well as keeping the business and assets of separate entities distinct. If business funds are intermingled with personal funds or funds of another business without appropriate accounting, for example, it is possible a party could build a successful case to pierce the veil.
- Fraud. The structure of a corporation or LLC may not protect its shareholders or members from liability in the event of fraudulent activities. If the party can establish fraud, the shareholders or members may not be able to protect their personal assets.
- Formalities. One of the downsides to choosing a corporation or LLC as a business structure is the fact that it requires certain formalities. In the case of a corporation, a failure to hold required meetings and have proper documentation could thwart the protections offered by this structure. LLCs tend to be less formal than corporations, but they can still require that certain procedures are followed.
It is important to structure your business properly and maintain procedures and formalilties to keep the umbrella of protection provided by the incorporation or LLC formation. It is wise to find legal counsel within the applicable state experienced in such matters to advise about best practices.