The purpose of forming a limited liability company (LLC) is to protect the owners from personal liability.
This way, if the company faces litigation, the disgruntled party can’t come after the owners’ personal assets. With an LLC, business assets and personal assets are clearly separated.
However, business owners with an LLC can lose this liability shield through what’s called “piercing the veil.” Our team of business attorneys at Generations Law Group is here to explain under what circumstances the courts can choose to pierce the veil, and what you as a business owner should do to protect yourself from this liability.
What is Piercing the Veil?
When the courts believe a business has taken severe missteps or even broken the law, a judge can decide that a company’s separation of assets from its owners is not valid. In this case, the court rules to “pierce the veil” and allow litigants and creditors to seek the personal assets of the business owners.
It’s important to note that courts do not take this action lightly.
As long as you’ve formed your business correctly, stayed in compliance with all rules and regulations and kept personal and business finances separate, you should not have to worry about losing your limited liability.
So under what circumstances do the courts pierce the veil and leave individuals financially liable? Let’s take a look at some common circumstances where this might happen.
Company Missteps that Could Lead to Piercing the Veil
Some activities that business owners engage in can leave them at risk of losing their limited liability protections.
Here are the five most common missteps that business owners make that lead to piercing the veil.
1. Failing to Keep Funds Separate
Commingling business and personal funds can leave business owners open to losing their limited liability. That’s because it’s difficult for the courts to rule where your personal finances start and end. Failing to keep financials separate can make it challenging to see where your business limited liability applies.
If you’re mixing all your funds together, that is essentially an invitation to the courts to treat your liability in the same way. Your personal assets are at risk if you’ve somehow merged business and personal finances.
An example of commingling business and personal funds is using business finances to purchase personal assets or vice versa. These are highly risky activities.
Instead, you should have business bank accounts and credit cards as well as personal bank accounts and credit cards. Never mix business accounting and personal budgeting to protect your limited liability.
2. Poor Business Conduct or Neglect
Business owners who fail to take proper steps in conducting business operations or are grossly negligent in their business practices could be held liable. It is the business owner’s responsibility to do all they can to comply with all rules and regulations as well as protecting all stakeholders.
For example, failure to develop safety standards for staff members who later get hurt could leave you liable personally. Or driving while under the influence of drugs or alcohol while driving a vehicle for business purposes could leave you with personal liability.
Before starting a business, be sure that you know the expectations for business owners under the law, and be prepared to comply to the best of your abilities. This caution and responsibility will help protect you from losing your limited liability protections.
3. Committing Fraud
Another way to potentially lose your limited liability protection as a business owner is to engage in fraudulent behavior.
You can in no way use your business to cover illegal activity, such as money laundering or other financial coverup measures. Because fraud is against the law, the courts won’t hesitate to pierce the veil in these circumstances.
4. Lack of Business Capital
Businesses that fail to keep adequate capital on hand to protect against liabilities could result in the courts piercing the veil.
The courts will look to see if the business has enough money to complete its regular operational activities. Poor business capital, mixed with other risk factors, could land you in the same precarious situation.
5. Failing to Comply with State Laws for LLCs and Corporations
When a company fails to comply with state laws for LLCs and corporations, the courts can suspend the entity. Without the entity to provide the limited liability protections, the business owners can become financially liable.
It’s best to make sure your business is always in compliance with all relevant laws and complete the necessary reporting requirements to keep your business entity in good shape.
Generations Law Group Can Help You Protect Personal Finances and Your Business
Before beginning any business operations, you should meet with a business attorney. Your attorney can review business formation information and discuss areas of risk you might not have been aware of.
With decades of experience in business law, Generations Law Group offers a strategy session to help you get started with protecting yourself and your business from liability. Schedule your strategy session now.