Earlier, we posted about what piercing the corporate/limited liability company (“LLC”) veil means. Today, we are providing tips to take to avoid veil piercing claims against your business.
Piercing the corporate veil generally becomes an issue when the entity is being sued and the plaintiff is concerned that the corporation/LLC alone will be unable to satisfy the debt or otherwise pay a judgment and thus the plaintiff seeks to hold the owner liable for the corporation’s/LLC’s actions; i.e. “piercing the corporate veil”. Because the owners want to ensure that they are not personally liable for the corporation’s/LLC’s obligations, and because the plaintiff wants to ensure that they are paid (whether it be by the corporation/LLC or the owners individually), there has been substantial case law dealing with the relevant factors necessary in piercing the corporate veil. The factors the courts analyze in determining whether to pierce the corporate veil are the same factors the prudent business owner or business attorney should be familiar with to ensure the corporate shield is maintained.
Factors that are significant to the assessment of the relationship between the owner and the entity are whether there is a failure to observe LLC/corporate formalities, siphoning of funds by the owner, nonfunctioning of other officers and directors, the absence of records, and the existence of the entity as merely a façade for individual dealings. These factors, once broken down, are not complex and can be complied with to ensure that the corporate shield is maintained.
Shareholder/Member Meetings – The shareholders/members should meet at least once each year (or act by written consent in lieu of a meeting), or as otherwise dictated by the bylaws/operating agreement, to conduct all annual business required (approve the tax return, approve the actions by the directors/managers, etc.). The secretary of the entity should take minutes of the meeting and include them in the corporate minute book.
Director/Manager Meetings – The directors/managers, should also meet regularly to discuss the business of the entity and to vote on major decisions of the entity. At a minimum, the directors/managers should meet at least once a year (or act by written consent in lieu of a meeting). If the bylaws/operating agreement dictates more frequent meetings (i.e. monthly or quarterly), there must be compliance with this requirement. All major decisions of the entity (e.g., distributions, loans, leases, purchases of real property, etc.) should be adopted in a resolution in accordance with the procedure set forth in the operating agreement. Minutes should be recorded for all meetings and included in the minute book.
Interest Records – The entity should keep an accurate and up-to-date ledger reflecting the current ownership of the entity and the names and addresses of the shareholders/members.
Bank Account – Each corporation/LLC should have a separate bank account, and there should be no commingling of the entity’s funds and the owner’s personal funds. This typically becomes an issue with a closely-held or single owner entity. The owner should not pay individual bills or liabilities from the entity’s account. If there are funds distributed from the entity to the owner, this should be properly accounted for either by payroll funds, distributions, or even a loan with a properly executed promissory note.
Business Name – All business of the entity needs to be conducted in the name of the entity (as the name appears on the organization documents filed with the state). It should be clear that the directors/shareholders or members/managers of the entity are acting on behalf of the entity and not in their individual capacity. Contracts should be signed by the corporation/LLC, letters sent should be on corporate/LLC letterhead, checks should be from the corporation’s/LLC’s account, etc.
Take the time to talk to a business attorney to make sure you have properly set up your corporation/LLC and understand how to legally run the same. It is well worth it in the end.