Most people form and use business entities for one primary purpose ? to protect themselves from personal liability for the debts of the business. This protection, however, can be lost.A corporation or LLC provides protection from personal liability for the debts of the business whether they are judgments or general debts to creditors. That being said, this protection can be lost in a number of ways. Let?s take a closer look.Personal Guarantees ? A personal guarantee is exactly what it sounds like. A person with ownership interest in a business personally guarantees a debt of the business. Such debts can be office leases or machinery loans. When you personally guarantee a debt, you take on the obligation to repay it. The fact a business is a LLC or corporation does not protect you from that obligation. If you form either entity, do not personally guarantee any of the debts!Piercing ? There is a catch all phrase in the world of business entities known as piercing the corporate veil. This essentially means that a court reviews your business entity and determines it has not been run correctly. As a result, the court disregards the protection provided by the business entity and makes the individual shareholders or LLC owners personally liable for the business debts. In practical terms, the veil of protection has been pierced. Obviously, this is bad news.Piercing the corporate veil is a difficult claim to prove. A plaintiff must show that the business entity was run in a manner that did not comply with basic legal requirements. Each state has different requirements, but there are a number of common arguments.1. Co-mingling ? If the owners of a business entity co-mingle their personal assets with the assets of the entity, a big step has been taken to piercing the corporate veil. Acts of co-mingling can include paying for personal debts such as mortgages with money drawn from the corporate bank account.2. Representation ? When a business entity functions, it is the ?person? doing business. If you sign leases, contracts and such personally or accept revenues personally, you can run into problems. All contracts should be signed in the name of the entity and all revenues should be issued to the entity name and deposited in the corresponding bank account.3. Formalities ? If you fail to follow corporate formalities, you can run into issues. A corporation must have an annual meeting. If you don?t, a strong case can be made that the entity was a sham.Criminal ? No business entity will protect you from criminal charges. It is designed only to deal with civil matters such as lawsuits. If you break the law, you are on your own much as the individuals you have seen in the news over the last few years because of corporate scandals. Think of Enron.If you take the prudent steps to run your business entity, you should have little worry regarding whether the veil of protection may be pierced. Fail to take such steps, however, and you have nobody to blame but yourself.
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