What is the corporate veil or shield?

Posted on | January 23, 2009 | 1 Comment

Question: ”What is the corporate veil or shield?

Matt’s Answer: The corporate veil is a legal fiction by which the owners of a business cannot be held personally liable for the bad acts of the business, if the business is a limited liability entity (”LLE”).  LLE’s include limited liability companies (LLC’s), limited partnerships, corporations, and other business forms that vary from state to state.  However, there are rules limiting the protection provided by an LLE.

 In most states, the following factors describe the standard by which a corporate veil could be pierced or ignored, allowing the owners to be sued personally.  In deciding whether a plaintiff has met the burden to pierce the corporate veil, courts consider whether the plaintiff has presented evidence showing:  (1) undercapitalization,  (2) absence of corporate records,  (3) fraudulent representation by corporate shareholders or directors,  (4) use of the corporation to promote fraud, injustice, or illegal activities, (5) payment by the corporation of individual obligations,  (6) commingling of assets and affairs,  (7) failure to observe required corporate formalities, or (8) other shareholder acts or conduct ignoring, controlling, or manipulating the corporate form.

 As a lawyer, I think that list is enormous.  There are many, many “Do’s” and “Do Not’s” in this list of eight factors, far too many to discuss in this post alone (Stay tuned to the blog for details!).  Unfortunately, very few lawyers take the time to educate their clients on how to operate a corporation or LLC.  Few lawyers list or describe the eight factors that could cause a corporation or LLC to be ignored.  Most lawyers simply file Articles with the Secretary of State to form the corporation, LLC or other entity, and create By-Laws or an Operating Agreement, and maybe a few minutes of an organizational meeting.  And that’s about it.  No training.  No education.  No practical guidance or explanation.  The clients who receive these services and nothing more are often left with a false sense of protection by their new corporation or LLC, and that is a shame.

 If you are operating a business, including a real estate-related business, you need to operate that business in a limited liability entity of some sort.  You also need documents and training, as follows:

1. A complete record book with proper Articles; By-Laws or an Operating Agreement; minutes of meetings; notices or waivers of notices of those meetings; resolutions; stock certificates; buy-sell and related agreements among owners; certificates of assumed business names; and more.
2. A plan to maintain the corporate record book.
3. A registered agent that can easily receive notices and service of process for your entity.
4. A business plan.
5. An insurance plan to integrate with your business plan.
6. The use of other asset protection techniques.
7. A tax plan integrated with your business plan.
8. Education on how to operate the entity and its finances-  practical lessons like how to complete and sign contracts.
9. Adequate funding of the business.
10. A plan to pick the correct entity form and structure.
11. A strategy for maintaining the entity after it is formed.
12. The correct tax documents and an EIN.
13. An education on fraud, use of contractors and employees, risks of personal liability, isolating risks as to co-owners or spouses, risk assessment, etc.
14. Avoid off-shore trusts, Nevada corporations, land trusts disguised as living trusts, and other tricks.  Stick with time-tested, lawful entities, insurance and good business practices.
15. Avoid using an entity as a means of committing fraud or fraudulent transfers.
16. and much more. . .

It typically takes me an hour and one-half at a minimum to teach clients how to structure and operate a simple LLE business.  If all you have done is filed the one-page form on the Secretary of State’s website and paid your $90 to $150 filing fee, then you have not yet satisfied the requirements of limited liability.  I wish you good luck, because luck is all that is protecting you.

If your lawyer does not spend at least an hour talking to you about these concepts, find a better lawyer.  Client-training and education are the most important things I do for my clients. 

Do not make the mistake of buying corporate or LLC forms on-line or through an unlicensed, non-lawyer (like a real estate speaker).  Do not make the mistake of having your accountant do your legal work.  Go see a lawyer who knows Indiana law, real estate and how to assist and educate you in the creation, organization and operation of your limited liability entity.  There are great lawyers who can form an LLE in perfect form, but who can’t teach these concepts.  Your lawyer needs to be a good teacher, as well as legal writer.  The point cannot be overstated.  It’s that important.

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