What Is Piercing the Corporate Veil?
Businesses that are registered as limited liability companies (LLCs) or corporations provide their owners with protection against being held personally liable for the company’s debts and claims. That legal shield of separation between a business and its owners is known as the “corporate veil.” Under that shield (under most circumstances) the owners’ personal assets (home, property, bank accounts, retirement savings, etc.) cannot be taken to settle debts and lawsuits brought against the business. However, personal liability protection is not guaranteed if entrepreneurs do something (or fail to do something) that a court defines as “piercing the corporate veil.”
When kept intact, the corporate veil helps protect a business owner from having to surrender personal assets to pay the debts or settle the company’s legal issues. In an LLC, the company’s members (owners) are shielded. In a corporation, that protection applies to shareholders (the owners) and corporate officers and directors.
Piercing the corporate veil (sometimes referred to as “lifting” the corporate veil) is when a court determines that personal liability protection does not apply. When the corporate veil is pierced, the individuals behind the business entity become held personally accountable for debts or legal wrongdoing of the business.
Examples of Piercing the Corporate Veil
What activities put entrepreneurs in jeopardy of piercing the corporate veil of incorporation? Below, I’ve listed some of the practices that could potentially put business owners at risk.
- Not properly forming the business entity
- Failure to maintain the LLC or corporate records required by the state
- Failure to keep business funds separate from personal funds (commingling assets)
- Paying for personal purchases with the business credit card
- Personally guaranteeing a business loan or using personal property as collateral for a business loan
- Not meeting other compliance obligations
- Conducting fraudulent activities under the business
- Willfully engaging in activities that put corporate gain over the public good
When the Corporate Veil is Pierced
Things can get messy when the corporate veil is compromised.
Corporate shareholders (and officers and directors) and LLC members might find themselves personally responsible for paying off business debts. Or those individuals might be named in lawsuits. Either way, the effects can create substantial financial and emotional hardship for the business owners and their loved ones. Creditors can go after the owners’ bank accounts, investments, home, vehicles, and other property and assets to satisfy the LLC’s or corporation’s debt. If an LLC or corporation has multiple owners, the courts will impose personal liability on those individuals who were directly responsible for the company’s wrongful or fraudulent actions (innocent owners will remain protected from the business’s liability).
Tips to Help Keep the Corporate Veil Intact
1. Complete the necessary paperwork and documentation
The business registration and ongoing compliance tasks and rules aren’t precisely the same in every state and from jurisdiction to jurisdiction. I encourage business owners to talk with their attorneys and check with state and local government offices to learn what specific requirements apply to them when forming and maintaining an LLC or corporation.
Examples of Entity Formation Requirements
- Obtaining an EIN (Employer Identification Number) — also known as Federal Tax ID
- Filing Articles of Incorporation (if incorporating) or Articles of Organization (if forming an LLC)
- Designating a registered agent
- Adopting bylaws
- Appointing officers and a board of directors
- Maintaining an LLC Operating Agreement
- Obtaining business licenses and permits
- Filing an initial report
Examples of Possible Ongoing Business Compliance Requirements
- Report and paying taxes
- Submitting an annual report
- Renewing licenses and permits
- Holding board of director meetings
- Holding shareholder meetings
- Holding LLC member meetings
- Recording and maintaining annual meeting minutes
- Renewing registered agent services
2. Stay out of legal trouble
Never engage in business activities that are reckless, illegal, or fraudulent. For example, a court of law might deem it fraudulent on the part of a business’s owners if they would enter their company into a contract with a services vendor, knowing their business doesn’t have the funds to pay that vendor. If a lawsuit ensued, those business owners might be held personally responsible and be forced to use their personal funds or property to compensate the vendor.
3. Set up a company bank account
It’s essential for LLC and corporation owners to keep their personal bank accounts and business funds separate. They should have checking and savings accounts exclusively for the business to help ensure personal assets stay independent from those of the LLC or corporation. Owners should use company checks only for business purchases. That will help prevent shades of gray regarding the use of business funds.
4. Avoid personally guaranteeing business loans
This puts a business owner’s personal assets at significant risk. If the company meets hard times financially for any reason and cannot make its loan payments, the LLC member or corporate shareholder who personally guaranteed the loan would be on the hook to ensure the money gets paid back. Sadly, that could result in losing a home, retirement savings, or other personal assets.
5. Keep the rules of engagement crystal clear
It can help alleviate confusion when it’s stated explicitly that the legal business entity is the party with whom customers, vendors, suppliers, project partners, etc., are dealing. Business owners should use their business name and other details on company paperwork and correspondence, such as proposals, contracts, invoices, sales receipts, marketing materials, and other documentation.
6. Be vigilant!
Entrepreneurs should make every effort upon forming an LLC or corporation to maintain separation between their personal interests and those of their company. Suppose a business faces financial or legal issues. In that case, any lapse in business compliance or other activity that muddies the waters could result in the company’s owners being held responsible. As you can imagine, that might have disastrous ramifications for those individuals and their family members.
Get Help When You Need It
I strongly recommend that business owners talk with a knowledgeable attorney and a tax professional to get information about and guidance on their obligations.
And after they know their responsibilities, they can turn to CorpNet for help in fulfilling the state filings required for starting their business and keeping it compliant. My team of experienced filing specialists works with entrepreneurs in all 50 states.
And we’re here for you, too!
Our expertise will save you time and give you the peace of mind that your federal, state, and local business filings will be done accurately and on time. Contact us to help you in your efforts to keep your business’s corporate veil strong!