Entrepreneurs put a lot of sweat equity into starting and running their businesses. They make sacrifices and have a lot on the line.
Unfortunately, despite how much time and energy business owners put forth, there’s no such thing as guaranteed business success.
When a business doesn’t make it, it’s distressing. But when an entrepreneur’s home, family vehicle, personal savings account, and other non-business property gets pulled into the fray due to their failing company’s legal or financial troubles, it’s even more devastating.
That’s why you and every business owner should be aware of what you can do to minimize your personal liability and provide asset protection for your personal property.
Asset Protection Requires You to Choose the Right Business Entity Type
As your first line of defense, I encourage you to consider the legal structure of your business. If you’re operating as a sole proprietorship (or general partnership), you’re more likely to put your personal belongings in jeopardy than if you formally register your business as a different type of business entity.
Legally and financially, you and your sole proprietorship are considered one in the same. So, if someone sues you or you can’t pay off a business loan, your personal assets might be taken as restitution.
I’m sure you’ll agree that’s not a good predicament to be in. And if you have a family to support and provide for, it can really take its toll emotionally, too.
Even the most careful and honest entrepreneurs can run into legal problems (whether justified or not) in the course of doing business. Some examples of what businesses encounter include:
- Trademark infringement lawsuits
- Work-related vehicle accidents
- Slip-and-fall accidents at their offices
- Employment discrimination
- Claims of breach of contract
- Sexual harassment accusations
- Faulty products
And money problems happen, too. If your business cannot pay its debts, you personally may have to remedy the situation with your personal bank accounts and property. Even if you follow the best practice of keeping your business and personal finances separate, you may have to pay off what your business owes with vacation funds or having your vehicle repossessed.
Incorporating Your Business to Help Protect Your Personal Assets
One way to help protect your personal assets is to incorporate your business. To incorporate your business, you’ll need to file a Certificate of Incorporation with the Secretary of State in the state in which you want to register your business. Once established, a corporation stands as a separate legal entity from its owners. Therefore, its legal and financial liabilities do not put its owners’ belongings at risk.
Registering your business as a C Corporation (or C Corporation electing for S Corporation tax treatment) protects your personal assets (and those of any other shareholders) from the losses, court rulings, and debts against your company. A C Corp’s liability protection typically applies to a business’s employees, directors, and officers, too.
Corporations are subject to the laws governing incorporation in the state where they are established. You should know that gaining the personal asset protection of a C Corporation requires fulfilling quite a few internal and external business compliance obligations—initially and on an ongoing basis. For example, corporations need to elect a board of directors, adopt bylaws, hold shareholder and director meetings, file annual reports, make financial disclosures, and carry out other formalities to legally operate their businesses.
Failure to meet your compliance responsibilities could result in your business losing its certificate of good standing with the state. And that will cost you. Your company might face fines, penalties, and possible suspension (or even dissolution) of your business. It could also put the personal assets of you and other owners at risk. If the state no longer considers you a legitimate corporation, you lose your protection from personal liability.
Forming an LLC to Help Protect Your Personal Assets
If you want to establish true asset protection of your personal property, but don’t want to deal with the multitude of legal and financial formalities that come with incorporating, consider forming an LLC (Limited Liability Company). Many small business owners choose the LLC business structure because it offers personal liability protection without a lot of compliance responsibilities.
In the event an LLC faces a lawsuit or cannot pay its debts, creditors and lawyers will normally target the business’s assets rather than owners’ personal belongings. Under certain circumstances, however, owners might be held personally responsible. If they’ve personally guaranteed a business loan, put up their personal property as collateral to obtain a loan, or committed fraud, then they might find their personal assets are fair game.
To form an LLC, you must register it in the state in which you wish to operate by filing articles of incorporation. While you’ll have fewer compliance items to deal with than a corporation does, your LLC will have to stay on top of a few things. I recommend checking with your state’s Secretary of State Office to learn what it requires.
Beware of Piercing the Corporate Veil!
One of the ways owners, shareholders, or members of a corporation or LLC unintentionally jeopardize their personal liability protection is by failing to keep personal and business finances separate. Doing so “pierces the corporate veil.”
When funds are commingled in that way, it removes the legal separation between a company and its owners. Therefore, a court might consider the corporation or LLC invalid and decide the owners are personally responsible for debts and legal claims brought against the company.
While keeping personal and business monies apart is a good idea even as a sole proprietor, it’s particularly critical for owners of an LLC or corporation. Don’t lose personal asset protection by getting sloppy in managing your bank accounts!
First Steps Toward Solid Asset Protection
Consider talking with a business attorney who can guide you in deciding which of the business entity types will provide you with the most legal protection. Your lawyer can also advise you on other ways to safeguard your assets, such as various kinds of business insurance.
After you’ve determined which business structure will benefit you most, my team at CorpNet is here to assist you through the business registration process. We can take care of filing your formation paperwork with the state, submitting initial reports, filing for trademarks, applying for business licenses and permits and more. That’s right, we’ll handle all the details, so you can focus on your other important business tasks. We’ll also help make sure you never miss a compliance deadline by notifying you of requirements well in advance of their due dates and taking care of submitting your information for you. Contact us today to form your LLC or incorporate your business