The BizFilings blog covering business tips and trends.
4 Ways a Business Can Lose its Limited Liability Protection
Published on Oct 18, 2011
Learn about 4 Ways a Business Can Lose its Limited Liability Protection at 'Time to Start Up,' the small business blog by BizFilings.
Limited liability protection is one of the main benefits of forming a Limited Liability Corporation (LLC), S corporation (S corp), or a C corporation (C corp).
If you’ve done some homework, you already know that limited liability protection shields a business owner against being held personally responsible for their company’s debts and liabilities. With limited liability protection, creditors cannot pursue the personal assets (home, savings, etc.) of the business owner to pay off business debts.
But did you know there are ways your small business can lose its protection, leaving you personally liable? Here’s a list of the top four ways that can happen:
This can occur in instances where owners (members) provide a key service. For instance, if you are an electrician and you forget to cap a live wire that electrocutes someone, your LLC is not going to protect you.
Making untrue claims about a product or service is considered fraud. Claiming a toy is non-toxic, when it actually contains lead paint, is a clear case of fraud. But what about a case where the company who was selling the product was told by their manufacturer that the product was non-toxic?
Of course, the manufacturer is guilty of fraud, but the company selling the product may also be liable. This has to do with product liability, which TheFreeDictionary.com defines as “the responsibility of a manufacturer or vendor of goods to compensate for injury caused by defective merchandise that it has provided for sale.” In addition, “when individuals are harmed by an unsafe product, they may have a cause of action against the persons who designed, manufactured, sold, or furnished that product.”
Typically, this occurs when a member (owner) co-signs on a company loan. Why would a small business owner do this — especially if he’s invested time and money in forming a corporation? Because if there’s not enough credit history, banks often require it from new or small businesses in order to grant them the business loan.
Failing to follow through with corporate formalities
Corporate formalities go beyond filing your taxes on time and paying any applicable state fees associated with your business. Depending on your business formation, it may also include having a board of directors, holding annual meetings of shareholders, maintaining sufficient capitol, and other contingencies.
So is it time to panic? Absolutely not. Simply being mindful of this list can go a long way in keeping one’s limited liability protection intact. It’s also important to remain well informed regarding your particular business type, as well as your state’s ongoing compliance requirements.