If you own a corporation, you no doubt formed it because you wanted to protect your personal assets from any liability arising from your business activities. In other words, you wanted to take advantage of the infamous “corporate veil.”
What is the Corporate Veil?
The corporate veil essentially acts like a shield. That is, if your business is run in accordance with the corporate laws of the state in which it was formed and within the guidelines set forth in its corporate bylaws, all of the officers, directors and shareholders will be protected from individual or personal liability for activities performed by the corporation (or performed by individuals acting within their authority on behalf of the corporation) in the event the corporation is sued by a third party, or its officers or directors are sued individually by a shareholder.
As long as the corporate veil remains intact, the individuals who run or invest in the corporation will not be held personally liable for the corporation’s debts. The corporate veil does not shield individuals who perform any illegal act or anyone acting in the name of the company in violation of the corporate bylaws (i.e., without authority to act).
How A Corporation is Formed
A corporation is formed when an “organizer” (which could be you) files the required state form and pays a fee to the Secretary of State. If the corporation is in a different state than the one in which you live, you also will be required to hire and maintain a “registered agent” in that state who will accept service of process (e.g., lawsuit or other official documents from the state), and you may be required to establish a “principal place of business” within the state, where corporate records will be kept. By forcing you to maintain a registered agent and/or principal place of business, the formation state establishes jurisdiction over you, regardless of where you live. If you fail to pay your annual registered agent and/or corporate filing fee, the state will suspend or dissolve your corporation, in which case your corporation will lose important legal rights.
The corporation is formed once the state file-stamps and issues the Articles of Incorporation. Next, the organizer must generate a set of corporate bylaws. These are the governing rules for how the corporation will be operated that describes its business purpose, who the parties are (officer, directors, shareholder classes, etc.), how decisions will be made, who will be paid and how profits and losses will be shared. Once you have all of those things in order, the organizer will hold an initial organizational meeting and start business operations. But that’s not all you have to do.
Your Corporate Veil Needs Care and Maintenance
One of the requirements of each state’s corporations or business code is that you must do certain things to demonstrate to the state and the public that your corporation is indeed acting as a distinct and separate company and not as an “alter ego” of the individual(s) running the company. The states and numerous court cases have determined that observing certain “formalities” will help establish your separate corporate identity. Those include, but are not limited to, the following things:
- The organizer must hold an organizational meeting and appoint a board of directors.
- The board of directors should appoint officers with specific titles and duties who will run the corporation.
- The corporation must maintain written minutes of all corporate meetings.
- The corporation should obtain a Federal Tax ID number.
- The corporation must file and pay both state and federal taxes.
- The corporation should physically issue any shares of stock described in its bylaws and/or stockholder agreement, by having its officers create and deliver the appropriate stock certificates.
- The corporation must have a bank account in its name.
- The corporation cannot “commingle” personal funds and corporate funds. The corporation checkbook or ATM card should not be used to purchase personal items, nor should personal funds should be used to pay for company expenses unless there is a clear procedure and record of reimbursement.
- The corporation may need to obtain a business license, depending on local requirements.
- The corporation should have telephone service separate from personal telephone service.
- Any written lease should be in the corporation’s name.
- The corporation must hold annual meetings of the shareholders and board of directors.
- All leases, contracts and letters must be signed by an officer or director with authority to do so, and that person must always sign in the capacity in which he or she is acting, e.g., name and title (e.g., Jim Smith, President).
- All decisions made at meetings should be documented in the form of a corporate resolution and maintained in the corporate records.
- Meetings should only be called and held in the manner described in the corporate bylaws.
- As a practical matter (versus a formality), the corporation should obtain directors’ and officers’ insurance (D&O Insurance) and business liability insurance.
- If the corporation is hosting a professional license, you should also get errors and omissions (i.e., malpractice) insurance. If you are using the corporation to host your professional license (e.g., as a Realtor, or other state-licensed professional occupation), you must notify the professional licensing agency and follow its rules for gaining its permission to operate the professional license under your corporate name.
The more of these things you do, the more likely you are to be able to survive a challenge that seeks to “pierce” your corporate veil. If you own a corporation and you haven’t done any or only a few of these things (which you should do even if you are the sole officer, director and stockholder), you should talk to your attorney about converting your company to a limited liability company, which still offers the corporate veil protection without requiring the formalities.
NOTE: This information is of a general, educational nature and may not be construed as legal advice pertaining to your specific offering, exemption or situation. Any such advice must be sought from your own attorney pursuant to an attorney-client relationship, after consideration of your specific facts or questions. At Syndication Attorneys, PLLC, we will be happy to discuss your investing goals with you. You can schedule a free, 30-minute consultation by clicking this link.