No matter the size or type of business you run, one of your first issues to determine is whether your business should be incorporated. This decision will determine not only your businesses tax structure, but also important issues concerning liability for contracts and business dealings conducted on behalf of the business.
State law governs the rules and regulations concerning the formation of corporate structures. A corporation is considered to have it’s own legal standing, which means it may own property, sue and be sued, as well as enter into binding long-term contracts on behalf of the corporation. In a sense, the corporation is treated like a separate individual.
If your business is not incorporated and you did not hire an attorney to set up one, the chances are good your business will probably be considered an individual proprietorship. If there are no co-owners to the business, you will likely be considered a solo-proprietor. This means, among other things, you can be held personally liable for the financial debts and obligations of your business and for all contractual obligations authorized or ratified by the business. You can also be held personally responsible for the negligent acts of your employees while in the course and scope of their work for the business.
Strange as this might seem, there are some business experts that advise against incorporating altogether. They argue that it just ends up costing too much money in legal fees and wasted time. Critics of incorporation point to the fact that small businesses can just as easily obtain all the liability protection they require through the purchase of liability insurance. Under this scenario, critics of corporations claim that small businesses can receive all the liability protection they need without having to go through the expense of becoming and maintaining a corporation.
Much of what the critics say has some merit, except for the fact that most small businesses usually need both, the protection of the corporate shield and the safety-net insurance coverage can provide.
The reason why small businesses should consider both – becoming a corporation as well as having comprehensive business insurance - is because under the right circumstances, the corporate veil can all too often be pierced by creditors through the filing of a lawsuit; leaving the major shareholders of the corporation legally responsible for the debts and obligations of the business.
Under what circumstances can creditors pierce the corporate veil? Most often it’s because the small business did not follow the many corporate formalities and rules legally required of corporations, such as conducting regular board meetings, preventing commingling of corporate assets with personal assets and by failing to file and maintain the necessary corporate documents required by state law.
While many large companies have in-house legal counsel whose responsibilities include making sure the corporation maintains full compliance with all corporate laws and legal formalities, many small business simply cannot afford the expense of inside counsel. Instead, some end-up retaining outside counsel to set-up the corporation and afterwards maintain all of its official corporate books and records.
There are those small businesses, which either through an attorney or on its own, form a corporation but later fail to maintain it’s corporate status and protections through their neglect or mistake. Under such a scenario, the small business owner can still be protected from personal liability if properly covered by insurance.
In summary, for a corporation to benefit from the protections of the corporate veil, the business must act like a corporation in all major respects. If for some reason the businesses cannot, the best next scenario is to be fully insured against such risks through the purchase of comprehensive liability insurance.
For more information on small business liability, corporations and business law visit GotTrouble.com