Whether you are already operating a business or just starting one, it would be a good idea to park that business in a recognized business entity such as a limited liability company, corporation, or partnership to protect your personal assets as owner of the business.
Yes, it will require some up-front expense. And, yes, it will require additional paperwork. And, protection from a business entity is not bulletproof; there are exceptions. However, the benefit of taking steps to protect your personal assets from the liabilities of the business far outweighs the expense, the paperwork, and the exceptions.
With respect to the level of personal liability protection, set forth below are general summaries of the different types of business entities:
Sole proprietorship. In a sole proprietorship, the owner will be personally liable for all business debts and obligations. Thus, there is no personal liability protection.
General partnership. In a general partnership, where the owners are made up of two or more partners, every partner will be jointly and severally liable for all business debts and obligations. Additionally, partners have fiduciary duties to one another. Thus, there is no personal liability protection and potential liability by and among partners.
Limited partnership. In a limited partnership, where the owners are made up of one or more limited partners and one or more general partners, the limited partners will not be liable for the business debts and obligations and will have no fiduciary duty liability (with exceptions). However, like a general partnership, the general partners will be jointly and severally liable for the business debts and obligations and have fiduciary duties to one another. Thus, there is personal liability protection for the limited partners only.
Corporation. In a corporation, where the owners are one or more shareholders, every shareholder will not be personally liable for business debts and obligations, as long as the corporation follows the necessary formalities required by law. However, there is an exception, to which a court may allow a creditor to "pierce the corporate veil" when evidence, such as inadequate capitalization, lack of formalities, comingling of funds, and use of business assets for personal use, is presented that demonstrates that the corporation acts merely as an alter ego of its shareholder(s). Thus, generally, there will be personal liability protection.
Limited liability company. In a limited liability company, where the owners are one or more members, every member will not be personally liable for business debts and obligations, as long as the company follows the necessary formalities required by law. Like a corporation, a court may allow a creditor to "pierce the veil" when evidence that the company acts merely as an alter ego of the member(s) is presented. Additionally, members may have fiduciary duties to one another. Thus, generally, there will be personal liability protection, but there may be potential liability by and among the members.
Limited liability partnership. In a limited liability partnership, where the owners are two or more partners, every partner will not be personally liable for business debts and obligations, but will have fiduciary duties to one another. Thus, generally, there will be personal liability protection, but there may be potential liability by and among the partners.
Now, there may be other exceptions to personal liability protection, including but not limited to: owner guarantees, a failure to properly form the business entity, the owner acting without proper authority, an improper distribution of funds accepted by the owner, tortious conduct by the owner, criminal conduct by the owner, or specific owner liability pursuant to state or federal law.
Nevertheless, when something goes wrong and the business may be liable to a third-party for a breach of contract, personal injury, or some other claim, even if you have insurance, at the end of the day, you may still be personally liable without a business entity in place to help protect you. It's better to be safer than sorry.
Lance P. Maiss is an attorney in Reno with Armstrong Teasdale LLP. Contact him at lmaiss@ArmstrongTeasdale.com or 322-7400 .
