Avoid the Piercing of the Corporate Veil
Take the Steps Necessary to Protect Your Personal Assets
Protecting your assets
While there are tax advantages to setting up your practice as a PC (Professional Corporation) or LLC (Limited Liability Company), the setup provides an equally important legal protection, as the PC or LLC exists separately from you as the owner. Because of this, your practice assets are separate from your personal assets. In simplified legal terms, this means that a creditor can not take your personal assets (house, car, etc.) if the practice owes them money. This protection is not guaranteed and there are responsibilities to ensure your corporate veil is not pierced.
"Piercing the corporate veil" is a legal phrase that describes the owner losing the protection that having a PC or LLC provides them. When this happens, the owners’ personal assets can be used to satisfy business debts and liabilities.
5 steps for maintaining personal asset protection and avoiding piercing the corporate veil
Owners of PCs and LLCs must take steps to show that the business exists separately from the owners. Key steps include:
Undertaking necessary formalities. Corporations have strict formalities they must follow, and while LLCs do not face the same requirements, many of the same steps are advisable.
PCs. Create and regularly update bylaws, issue shares of stock to owners (shareholders) and maintain a stock transfer ledger, hold both an initial and then annual meetings of both directors and shareholders, undertake any annual filings required by the state of incorporation in a timely manner and pay the necessary filing fees, and pay corporate taxes.
LLCs. Undertake any annual filings required by the state of incorporation in a timely manner and pay the necessary filing fees. Recommended formalities include creating and regularly updating an operating agreement, issuing membership certificates to owners, keeping a membership transfer ledger, and holding both initial and annual meetings of the members (and managers, if your LLC is manager-managed).
Documenting your business actions. Document the major business decisions and the major meetings you hold. For example, sign and keep contracts your company enters into. Document that you held the initial and annual meetings of directors and shareholders (corporations) or members/managers (LLCs) and keep the meeting minutes from each of these meetings. Keep formal business documents for at least seven years.
Don’t comingle business and personal assets. Keep business assets separate from the assets of the owner(s). Have a business checking account and business credit card and only use these for business expenses. The mixing of personal and business expenses is the most common error used to pierce the corporate veil, especially for single owner businesses.
Ensure adequate business capitalization. Your business will need money and the equipment and items necessary both to start and continue operations. There are many ways to do this: through your own money, accepting money from others and making them business owners, or through a business loan. Whatever your approach, without adequate capital, your business will not survive. Keep in mind, this capital needs to be designated to your business and not to you.
Make your corporate or LLC status known. Make purchases and pay invoices via a business checking account or credit card. Bill out under your company name and ensure that any contracts, leases and/or documents you sign should be in the company name.
WARNING: If a judge cannot distinguish between what belongs to the practice and what belongs to the you or you cannot provide proof that all formalities have been followed, it may be deemed that you’re acting more like a sole proprietorship than a corporation or LLC. The judge can then "pierce the corporate veil" and award your personal assets to any plaintiff.