What Is the “Corporate Veil”?
When a company is formed as a Limited Liability Company (LLC) or corporation, it is regarded as its own legal entity. Therefore, the business—rather than its owners—is held accountable for its debts and legal responsibilities.
“Corporate veil” (also called a “corporate shield”) is a business term that refers to the legal distinction between an LLC or corporation and its owner(s). It is the legal separation established by keeping a company’s activities, assets. and liabilities independent from those of the business owner(s).
Is it Necessary?
The corporate veil, when kept intact, helps protect a business owner from having to surrender personal assets to pay the debts or settle the legal issues of the company.
Piercing the corporate veil (sometimes referred to as “lifting” the corporate veil), is a 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.
What are Some Examples of Piercing the Corporate Veil?
What activities put entrepreneurs in jeopardy of dissolving the corporate veil? Below, I’ve listed some of the practices that could potentially put business owners at risk.
- Failure to maintain the LLC or corporate records required by the state
- Using business assets for personal purposes (without proper documentation)
- Failure to keep business funds separate from personal funds
- 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 (such as following bylaws, renewing licenses and permits, paying taxes, etc.).
- Conducting fraudulent activities under the business
- Willfully engaging in activities that put corporate gain over public good
What Happens When the Corporate Veil is Pierced?
Things can get messy when the corporate veil is compromised.
Corporate shareholders and LLC members (owners) 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—not only for the business owners but also for their loved ones.
How Do You Maintain Corporate Veil Protection?
Unless there’s an obvious abuse of requirements for maintaining the corporate veil, most states will uphold the concept of personal liability protection and not regard business owners as personally responsible for corporate obligations.
Still, I recommend that entrepreneurs take maintaining the corporate shield seriously.
Here are some ways to help keep that all-important corporate veil intact:
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.
Complete the necessary paperwork and obtain proper documentation when registering an LLC or corporation.
The rules vary from state to state and jurisdiction to jurisdiction, so it’s critical to check with the Secretary of State office and local government offices to find out what requirements you must fulfill.
Some examples that might apply include:
- Filing Articles of Incorporation (if a corporation) or Articles of Organization (if an LLC)
- Designating a registered agent
- Adopting bylaws
- Appointing officers and a board of directors
- Obtaining business licenses and permits
- Filing an initial report
Meet all ongoing compliance requirements.
Registering a business with the state is just the beginning. To retain status as an LLC or corporation, you’ll find you will have certain ongoing compliance tasks to perform. Just as when starting a business, the requirements will vary depending on in which state and locale your business is set up.
Several common compliance formalities include:
- Paying taxes
- Submitting an annual report
- Renewing licenses and permits
- Holding board of director meetings
- Holding shareholder meetings
- Recording and maintaining meeting minutes
Have a company bank account.
It’s essential to set up a bank account exclusively for the business to help ensure personal assets stay separate from those of the LLC or corporation. Write business checks for business purchases only. This will help prevent shades of gray regarding use of business funds.
Avoid personally guaranteeing the payback of business loans.
This puts the business owner’s personal assets at great risk. If the company meets hard times financially for any reason and cannot make its loan payments, the LLC member or shareholder who personally guaranteed the loan will 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.
Make it clear when businesses and individuals are engaging with your LLC or corporation rather than you personally.
It can help alleviate confusion when it’s explicitly stated 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.
Final Word to the Wise: Be Vigilant
Upon forming an LLC or incorporating a business, entrepreneurs must make every effort to maintain separation between their personal interests and those of their company. If a business faces financial or legal issues, 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.
I strongly recommend talking with a business attorney for guidance so that you understand your obligations under the law. And for help with the business registration and compliance paperwork required for helping you maintain the corporate veil, contact CorpNet’s filing specialists. We’re here to 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— no matter where you are in the United States.