If you’ve just started a business, you’re likely excited by the idea of becoming your own boss, using your talents and skills to help others, and obtaining financial success. While all of these are noble goals, it’s also important to think of what could go wrong in your business. This will help protect what you’ve built both personally and professionally.
One issue that new business owners often overlook is the possibility of being held personally liable for business decisions. While there are ways you can mitigate the risks of this happening, you must set the right foundation from the beginning. Find out what you need to know about protecting yourself from business decisions gone south.
What Are the Consequences of Personal Liability?
As a business owner, you may decide to take on debt if you don’t have the cash to negotiate a lease, purchase equipment, travel, or pay for other necessary expenses. Additionally, it’s possible that you can be sued for damages incurred from faulty work, defective products, or a failure to deliver on promises made to customers. If your business has enough funds to pay debts and legal obligations, then you likely won’t run into any major issues.
However, problems can arise when the business doesn’t have enough money to meet debt and lawsuit obligations. Without sufficient distance between your personal and business finances, creditors and courts may very well go after your personal assets. Unfortunately, this can put both your business and your family in jeopardy and can, in some cases, lead to financial ruin.
How Can Houston Business Owners Protect Themselves From Personal Liability?
Choose the Right Business Structure
Your business structure is the first line of defense against personal liability in business. If you are currently operating your business as a sole proprietorship or a general partnership, you are opening yourself up to the possibility of being personally sued or having your assets seized to pay business debts and obligations.
If you want to avoid this scenario, get advice from a business formation lawyer. You need to choose a business entity that separates your business and personal finances. These include limited liability corporations (LLCs), C corporations, and S corporations. These entities require registration with the state government and, in some cases, an election with the Internal Revenue Service (IRS).
Although some business entities separate business assets from personal assets, entity selection alone does not always shield you from personal liability. For example, in a limited liability partnership (LLP), you may be personally responsible for your own negligent acts.
Avoid Forfeiting the Corporate Charter
Forming a business entity isn’t all that is required to maintain your company. You must file paperwork with the Texas Comptroller on a regular basis, including tax returns and your annual Periodic Information Report. You also have other obligations, including maintaining a registered agent for your business at all times. If you fail to meet these obligations, you can put your business at risk of having its charter terminated by the Texas Secretary of State’s office.
When this happens, your business is no longer considered a corporate entity. You must reinstate it in order to regain your business status. For this reason, it’s crucial for you to keep up with your business paperwork. If you don’t, you may become personally liable for any debts or lawsuits during the period between when your business charter ends and when you reinstate it.
Avoid Signing Personal Guarantees
In many cases, business startups are backed by personal funding. That is, you may put up the money to lease or purchase real estate, buy equipment, or pay employees in an effort to get your business off the ground. This isn’t much of an issue if you’re investing your money outright. However, it can lead to problems if you need to incur debt to meet your business needs.
Often, banks and landlords will ask business owners who don’t have a proven track record of profitability to sign personal guarantees for loans and leases. This is their way of collecting collateral to ensure the debt can be repaid in the event that the business doesn’t make enough to meet those financial obligations.
If you insist on signing a business contract with a personal guarantee, do your best to negotiate the terms. This can help you set maximums or time limits for your personal liability so you won’t continue to put your personal finances at risk.
Need help negotiating a personal guarantee? Our attorneys at Weisblatt Law Firm can help you mitigate risks as you take your business to the next level. Call (713) 666-1981 for a free phone consultation to find out how.
Maintain the Corporate Veil
Although choosing the right business entity, maintaining good standing with the state, and avoiding personal guarantees are a start, there are still situations in which you can be held personally liable even when all of those protections are firmly in place. This is often called “piercing the corporate veil.” According to Section 21.223(b) of the Texas Business Organizations Code, a claimant wanting to hold you liable must be able to show that you used the business entity to perpetuate fraud for your own benefit.
While you may never have intended to commit any act of fraud, there are some actions you may take in your business that could cause the court to question your intentions. These include:
- Commingling your business and personal finances
- Manipulating or hiding assets to avoid creditors
- Undercapitalizing the business so it isn’t properly funded
- Concealing or misrepresenting business members
- Failing to maintain accurate business records
- Failing to adhere to documentation or behavior obligations (e.g., holding meetings and filing reports).
There isn’t an exhaustive list of actions that put you at risk of having your corporate veil pierced. The most important thing is that you maintain required business practices and paperwork, document all transactions, and keep your personal finances out of the business as much as possible.
Maintain Accurate Business Records
As a new business owner, you may find it cumbersome to keep a record of all of your business activity. However, your commitment to meticulous documentation may very well be what saves you from personal liability. Keeping separate bank accounts, documenting your business expenses, and keeping a record of income and payments strengthens your argument that your business and personal finances are separate and that you should not be held responsible for business debts and obligations.
In addition to upholding the legal separation between you and your business, accurate records can show that you have acted responsibly in managing your business affairs. This can prove valuable when a legal dispute or investigation arises. Accurate records can keep you out of trouble with the law and the courts.
Consider an Insurance Policy
It’s always a good decision to maintain a general liability policy as well as other policies that may be common for your industry or business type, such as workers’ compensation, property insurance, or professional liability insurance. These insurance policies can protect you from lawsuits related to your products, services, or business practices by covering financial losses and legal expenses. This can stop courts from trying to seize your personal assets to cover business debts or judgments.
Get the Legal Advice You Need to Ensure Protection From Every Angle
It can seem daunting to take all of the necessary steps to protect your personal life and finances from the activities of your business. However, it will be worth it in the long run, especially as your business grows. Having more customers and advancing into new markets involves a great deal of risk. Limiting your personal liability for these risks is essential for your peace of mind.
Our experienced business attorneys at Weisblatt Law Firm can provide sound advice to help you structure and maintain your business the right way. Call (713) 666-1981 today for a free consultation.
Attorney Andrew Weisblatt
Mr. Weisblatt has practiced continuously since becoming licensed in 1992 and has represented businesses ranging in size from one person start-up ventures to multi-national corporations employing hundreds of people in multiple countries. From 2005 through 2009 Mr. Weisblatt was in-house counsel and chief operating officer of a multi-national corporation in the steel products industry. That in-house position provided valuable insight into how businesses work and what they actually need from their lawyers – both in-house and outside counsel. Attorney Bio
