Piercing The Corporate Veil
Corporations and limited liability companies are designed to shield the assets of their individual owners. Public policy favors individuals investing money and taking risk to start a new businesses. New business is encourage because they provide public benefits of employment and tax revenues. Corporations and LLCs (hereinafter collectively referred to as “Corporations”) further the public policy of new business development, in part, by protecting individual owners from new business failures. If the new Corporation is not successful then the Corporation is liable for any debts or claims incurred in the start-up, but the individual owner protected from the consequences of business failure unless the owner personally guaranteed Corporation obligations. In the event of a lawsuit by the Corporation’s creditors, the Corporation’s assets are at risk but the individual owner’s assets are protected by the “corporate shield.” Without the corporate shield, in theory, individuals would not risk their personal wealth in new business ventures.
The lawsuit protection features of the Corporation will be effective only to the extent the Corporation is treated as a separate and distinct entity, apart from the individual. If a judgment creditor finds through post-judgment discovery that the debtor Corporation has no significant assets the creditor may attempt to convince the court that the corporate entity should not be respected and that the plaintiff should be able to sue the owners individually to recovery money owed by the debtor Corporation. This collection practice is referred to as “piercing the corporate veil” in order to obtain a judgment against owners individually to satisfy money judgments entered against the Corporation.
There are many reported cases involving creditors’ attempts to pierce a Corporation veil in Florida and other states. In Florida, one partcular Supreme Court decision knows as the Dania Jai Ali case explains the legal standard in Florida for piercing a debtor Corporation. Florida law makes it very difficult for a creditor to pierce the veil of a legitimate Corporation. In general, Florida law does not allow creditor to pierce a Corporation as long as the Corporation is established and operated to conduct a bona fide business venture and as long as the Corporation operates as a distinct and separate entity from its individual owners. Piercing may be permitted if the debtor establishes a Corporation with the intent to defraud creditors, or if the debtor operates the Corporation as his personal alter ego by, for example, commingling personal assets and debts with those of the Corporation.
If you own a small business in most cases any adversary that sues the business will as a matter of course sue individually all the shareholders, officers, and directors as well in an attempt to pierce the veil of the defendant Corporation. The plaintiff will attempt to pierce the corporation so it can possible collect the judgment from the assets of the individual owner in the event the business has no assets remaining after a judgment is entered.
The first defense against piercing the veil of a business is for the owner to have a proper asset protection plan to protect his personal assets from the potential liability from all sources. If the owner’s personal assets are protected from creditors then attempted veil piercing will provide no additional asset targets for the creditors.
Secondly, in choosing an entity to conduct a new business the owner should consider using a limited liability company instead of more traditional Chapter S corporations. There are much fewer court decisions permitting piercing the shield of an LLC than for corporations. The LLC, by its name, is designed to limit the liability of its owners. Also, the LLC has many fewer required formalities; for example, Florida statutes do not require LLCs to have by-laws, directors, certificates of ownership, annual meetings or any similar formalities expected of corporations. Therefore, there is less to do periodically to meet the formal legal requirements of LLC operations.
Whether or not a creditor is able to pierce the veil of a Corporation depends upon the facts of each case. As indicated above, piercing the veil is difficult in Florida as long as the debtor maintains and operates the Corporation as a distinct business for a legitimate business purpose.
Here are four common sense tips to follow to make sure your own corporation or limited liability company is not a target for veil piercing in Florida.
Your corporation or LLC must conduct a real and legitimate business. The nature of your business does not matter much. But, just forming a legal entity called a corporation or LLC and capitalizing the entity with your money or other assets does not establish a legitimate business purpose. Moving your assets into Corporate name, without more, gives the appearance of fraudulent transfer of assets to avoid personal creditors. Make sure your business is actually “in business.”
Do not ever commingle business and personal bank accounts. Do not ever pay personal bills directly from the business account. Doing so will portray your business funds as personal funds and your business checking account as an extension of your personal financial account. Labeling such payments of personal expenses as “distributions” will not cure the problem. The proper procedure in this regard is for the business to distribute cash to the owner’s personal bank account, and then for owner to pay personal bills from his personal account.
Conduct business in Corporate name. When you or agents of your business sign business contracts make sure that the signer designates that he is signing as business agent or as business representative. All letters and emails should be sent out with business letterhead or business signature. If the owner signs documents or correspondence in his personal name and not clearly as corporate representative the owner may be legally liable for the contract or written correspondence.
Adhere to applicable business formalities. Florida corporations should maintain a corporate book with minutes of annual director and shareholder meetings. Physical stock certificates must be issued. Limited liability companies must have an operating agreement that identifies its members and describes their respective ownership, rights and responsibilities.
Generally, under Florida law a business owner will avoid having creditors pierce the legal protection of his corporation or LLC as long as the owner treats his business as a distinct and separate entity from himself and his family. Do everything reasonable to make it clear to the world that your business stands on its own feet, separated from yourself, so that third parties with whom you transact business dealings will know they are dealing with your business as a separate legal entity rather than dealing with yourself in your personal capacity.