So you’re thinking about filing for an LLC or you just started one, congratulations! Owning your own company is an exciting time! However, what the State doesn’t tell you when you create an LLC is that it is up to you to operate your company in a way that actually protects you from personal liability. In this post we seek to offer a few tips on how to best operate your business to protect yourself from personal liability and maintain good company records.
First, what is an LLC? LLC stands for “Limited Liability Company” which is a legal entity completely separate from its owners. The separate entity creates “limited liability” protection, meaning that the company is liable for its debts and obligations, but the owners’ personal assets are protected. The owners, however, do risk the money they invested in the company, may be liable for unpaid payroll taxes and any debts in which they have provided a personal guarantee, and for any personal wrongdoing. (A personal guarantee is an unsecured written promise from a business owner guaranteeing payment on an equipment lease or loan in the event the business does not pay).
It’s noteworthy that limited liability doesn’t come on a silver platter. A business owner must be prudent and operate their business in a way that protects the limitation. Below are a few tips to get the most out of the LLC’s protection:
Keep Prudent and Organized Business Records
There is more to separating yourself and any partners from your company than filing your LLC with the state. It is important to separate business records to create a clear distinction between the owners and the company. Having a separate binder or records system for all company related documents, contracts, and tax statements helps to establish a clear record of the business’s dealings. Company related documents should include an operating agreement. An operating agreement aids in establishing the owner's’ intent as to how the business is to be operated, how it may grow, the tax matters and status, ability to transfer shares, and dissolution policies. An operating agreement also helps to establish the company’s legitimacy and organization.
In addition to your records, it is important for the owners to represent themselves as the company in all business dealings. Contracts, purchase orders, etc. should state only the company’s name and not an owner’s name. This makes it clear to anyone entering into a contract or business relationship with the company that they are dealing with an independent entity.
Keep Bank Accounts Separate
A separate bank account must also be established. If a company and owner’s bank records are not operated independently, then the separate limited liability status cannot be maintained. An owner can be subject to personal liability if they use their company account for personal expenses. Even if you are a single member LLC, it important to keep records and accounts so that there is a clear distinction between yourself and the company even though you are physically one and the same.
Credit cards, debit cards, and checks should all be in the name of the company and tied to the business accounts. It is also encouraged that the company establish its own line of credit. When the business first opens you will likely have to personally guarantee the initial loans. However, because personal guarantees open you to personal liability it is important to later separate the company’s credit from any personal guarantees.This will clearly establish the business’s credit with purchases, payments, and a revenue and profit record.
Consider LLC Insurance
Aside from any insurance you need for the type of business you are operating, it is also important to make sure your insurance covers your business and you individually. Liability insurance helps you and your company have monetary coverage in case anyone does sue you or your business.
Explore Other Liability Protection Opportunities
Talk with an attorney and accountant to discuss other ways to protect your personal and business assets. For example, special consideration should be given to married couples contemplating or currently owning an LLC. This is due to the fact that marriage raises the issue of jointly held assets. If one spouse creates an LLC, the entity protects both their and the spouse’s assets from personal liability. However, if personal liability is found, a creditor or collector can still only go after the assets in the owner-spouse’s name. What can be more tricky is when a married couple jointly owns an LLC and all assets, including joint assets, can be the subject of personal liability if the proper procedures are not followed. With that being said, married couples interested in starting a business should consult with an attorney and accountant to discuss the best ways to protect their assets.
Not following best practices can lead to another attorney or individual being able to “pierce the corporate veil.” Piercing the corporate veil is when the liability protection of the company can be broken and a creditor or individual with a legal claim can go after personal assets, thus negating the liability protection.
An LLC can be an effective and more approachable entity structure for a lot of small businesses with the added bonus of liability protection. By following prudent and responsible business practices you will be able to enjoy the full benefits of protection from your entity.
Contact an attorney and accountant to discuss the best structure and practices for you and your company. This blog post is not meant to replace the advice of an attorney and obtaining personal legal advice is recommended.