Running a business can be risky. Even with the best intentions, unexpected liabilities may arise which can be detrimental to a business, its owners, and its management. Fortunately, with insurance and proper business planning, such liabilities can often be contained, minimized, and often eliminated.
Whether or not a company should or must carry insurance depends on the nature of the business, applicable regulations and laws, the risk tolerance of the businessperson, and available financial resources. For some types of businesses, like the practice of law, maintaining insurance is required to protect both the assets of the company and the business owner or manager, however, in most cases insurance is used to protect the actual business instead of the owner or manager’s personal assets. While insurance obviously implicates a number of legal issues, the decision to purchase coverage is often a business decision that can be made by the businessperson with the assistance of an insurance agent.
In contrast, protecting a business owner or manager from personal liability is typically a legal issue which can be accomplished via proper business planning. Properly organizing and operating a business entity is typically sufficient to shield business owners and managers from personal liability. Despite the relative simplicity in doing so, businesses are frequently organized and operated in a manner which exposes their owners and managers to unneeded personal liability.
The most obvious and common way that business owners expose themselves to personal liability is operating their business as a sole proprietorship. Failing to incorporate a business into some type of entity (corporation, LLC, partnership, etc.) is the best way to expose one’s personal assets to unneeded risk. Often, business people do not appreciate this risk and assume that contacting an attorney is something they can’t afford. However, for most small businesses this is not the case, as simple business planning and incorporation services are actually fairly inexpensive. The next most common situation where personal liability arises is where businesses are improperly organized. In an attempt to save money, business people often try to use self-help services such as LegalZoom to save money, and in doing so improperly organize their business. In terms of limiting personal liability, incorrectly incorporating a business is often the same as failing to incorporate in the first place. Saving a little bit of money up front can be quite costly in the long run.
Another way to expose one’s personal assets to business liabilities is to get behind on state filings. For example, Texas requires the annual filing of a Public Information Report, a simple informational form that must be filed with the Texas Comptroller. Filling out this form is very easy, and should take less than ten minutes. However, failing to do so will eventually cause the Texas Secretary of State to suspend the charter of a business, which may open up the officers and directors of a company to personal liability. Despite how easy it is to make this simple filing, I still see business people miss these filing dates, and have personally seen the negative personal consequences of failing to do so to directors and officers.
In addition to the above methods, business owners and management may also find themselves personally liable for company debts via a legal theory called “piercing the corporate veil.” This legal theory is generally applicable when the business owner has not respected corporate formalities, undercapitalized the business, or treated the business as an extension of themselves by commingling funds or using the company as their personal piggy bank. While the legal factors a court may consider vary by jurisdiction, courts generally apply precedent to the specific facts and circumstances to determine whether they justify piercing the corporate veil of limited liability.
Organizing a business entity is paramount to a business person in protecting themselves from the liabilities of their business. This is probably the most important step in properly setting up a business, as it is a relatively inexpensive way to protect oneself from the liabilities of a business. While there are many websites that offer self-help incorporation services, nothing can replace an attorney when organizing a new business. The Eastman Law Firm would be happy to help you in doing so, and offers reasonable flat fees for business planning and incorporation services.