As a general rule, shareholders of a corporation are shielded from liability for the debts incurred by the corporate entity. This protection from liability exists because a corporation is treated as a separate, independent, legal entity from its shareholders capable of accruing assets and incurring liabilities. Basically, when you incorporate a business in California or any other jurisdiction, a “corporate veil” will drape over the business that protects you and any other shareholders from being held personally responsible for corporate debts.
Piercing the Corporate Veil
However, it is important to understand that this corporate veil is susceptible to being pierced by a court in very specific instances. If this occurs, shareholders could be deemedpersonally liable for the debts incurred by the corporation.
The issue of piercing a corporate veil typically arises with creditors in debt collection litigation. Creditors might try to pierce the corporate veil strategically to be sure they can access funds to satisfy an outstanding debt.
If a creditor attempts to pierce the corporate veil, there are specific legal elements that must be met in order to prevail. One of the key elements is establishing “alter ego liability.” Basically, when it comes to alter ego liability, a corporate entity is being treated as an extension of a shareholders’ personal interests. If this is established, a court could reasonably determine that the shareholder is responsible for repaying the debts of the corporation.
In order to establish alter ego liability and pierce the corporate veil, the following factors must be met:
- There is sufficient evidence indicating a unity of ownership and interest between the owners (or shareholders) of a business and the corporate entity; and
- It would be unreasonable and not serve the interests of justice to only hold the corporate entity accountable for its debts.
When a Shareholder Becomes an Alter Ego Liability
There are certain scenarios that would indicate a unity of ownership and interests that could expose the business owner, or owners, to alter ego liability. These include:
- Using corporate assets to pay the personal debts of a shareholder, or shareholders;
- Failing to separate the personal assets of a shareholder, or shareholders, from the assets of the corporation;
- Failing to maintain proper corporate formalities, such as conducting board and shareholder meetings, issuing minutes of meetings, or not properly issuing stock in the corporation; and
- Failing to properly oversee and manage the assets of the corporation.
Protection from Alter Ego Liability
As a business owner, you can take proactive steps to protect yourself, and your business, from being exposed to potential alter ego liability. Those proactive steps include:
- Ensuring there is a clear divide between your personal checking account and the checking account of the business.
- Establishing protocols to track assets and expenditures of the business.
- Ensuring your business is sufficiently “capitalized” (i.e., you do not run up massive business debts beyond the company’s available assets or its ability to service those debts).
- Complying with the necessary and required corporate formalities.
Interested in More Information about Protecting Your Business from Alter Ego Liability? Consult with an Experienced Business Lawyer in Los Angeles Today
If you are starting a new business, or want to properly incorporate a business, you owe it to yourself to do it right. Hence it is in your best interest to work with an experienced business lawyer in Los Angeles such as Afshin Hakim and his team. Hakim Law Group is comprised of professional, trusted and reputable business attorneys who are ready and able to assist you get your business on the right track. For further information or to schedule a consultation please contact HLG at 310.993.2203 or visit https://www.hakimlawgroup.com/ to learn more.
