The Limits of Limited Liability

What are the limits of limited liability? Nolan Wiley dives into the intricacies that come with registering a business and possible mistakes small business owners can make when forming their entities.

Many successful small business owners decide to register their business with their respective secretary of state’s office. The chief benefit sought is limited liability – meaning the owners intend to be protected from personal liability, because the law recognizes entities as “persons” distinct from the individual(s) that own or operate the entity.

But many small business owners take this big step on the advice of friends and family without fully understanding the ongoing steps needed to enjoy the benefits of limited liability. Small business owners tend to make a few common mistakes when forming their entities.

• Understanding the role of a statutory agent. Also known as a registered agent, this individual serves as the state’s official point of contact for a business and is authorized to receive important legal documents on behalf of the business. Another benefit of the statutory agent is that their mailing address – and not the personal addresses of the business owner(s) – will be listed on the public documents found on the secretary of state’s website. Which brings us to the next step.
• Establishing a written policy or procedure for the statutory agent to receive important legal documents. Because this address will be publicly available, the state and others, including creditors, are allowed to rely on it to send important notices to the business. Not only does this precaution limit the chance that a default judgment could be entered against the business, but it also makes it easier for the business to meet the standard for “excusable neglect” in order to have a default judgment set aside. This issue sometimes arises when people use LegalZoom or a similar company with the mistaken understanding that the company will take care of everything. Some of these companies set up a subsidiary as the business’s registered agent, which can result in missed notices.
• Keeping separate finances and assets. Some business owners make the mistake of using personal bank accounts for the business, or the reverse. Business owners that fail to keep adequate separation between their own finances and the business’s finances could be at risk of being held personally liable for the company’s debts. The same issue arises when it comes to personal/company vehicles.
• Keeping the business’s most valuable assets in a separate entity. A common example is an office building or warehouse that the business uses. If the building that a business operates out of is owned by that business – or worse, by the individual business owner(s) – then creditors could reach it to satisfy debts arising out of the business’s activities. It is generally better to maintain adequate separation between the operating entity, and the entity that owns valuable assets like real estate