I’m Not Anti LLC — But You Better Think About It
(Updated 1 July 2018)
For various reasons, I’ve developed quite a reputation as an “Anti-LLC” person. Truth is I am not hard over against the LLC form of business organization at all.
But there are a number of things you really need to think through before you join the rush of the new business “lemmings” jumping off the “LLC Cliff”.
Read This First, Please:
I am not a lawyer, a CPA, Financial Planner nor any other form of regulated, licensed professional. All information here is my opinion and if you need professional advice, then you should seek such advice from a qualified professional.
LIMITED LIABILITY HAS LIMITS
The reason most newbies rush off to form an LLC is expressed with the single word, “protection”.
This is certainly correct, subject to some non-trivial limitations.
But I urge you to stop and think a few moments about what you are seeking “protection” from.
In a court proceeding, a judge can rule that your LLC structure doesn’t protect your personal assets.
The action is called “piercing the corporate veil”, and you can be at risk for it if, for example, you don’t clearly separate business transactions from personal, or if you’ve been shown to have run the business fraudulently in ways that resulted in losses for others.
Another side issue regarding LLC “protection”. In the USA you are entitled to represent yourself in any court case or other legal matter.
Most lawyers will be happy to advise you that self-representation is rarely a good idea.
But there may be many times that representing yourself can work just fine.
Let’s say a nuisance suit over some homeowners association rule violation or such.
If you, as John Jones gets a suit filed against you, you can represent yourself.
If “John Jones, LLC” gets sued, no such luck. You’re going to need a corporate attorney for every court appearance and all legal procedures.
Frankly, I don’t see much “protection” here, either.
CONSUMER FRAUD VERSUS BUSINESS FRAUD
Almost any discussion of fraud and the risks of doing business online always leads almost immediately to credit card issues.
In particular false charges being placed on your card.
This is actually one of the least possible fears any US consumer doing online should have. Why?
US CONSUMER PROTECTION LAW
There are at least five major US laws that protect US consumers against credit card fraud, deceptive practices and false charges.
The most important one is:
The Fair Credit Billing Act (FCBA)
If you meet certain guidelines, the Fair Credit Billing Act limits your financial responsibility for unauthorized charges to just $50 and says you don’t have to pay for:
- Merchandise that you ordered but never received.
- Goods and services that you didn’t accept or were not as promised.
- Double charges and other incorrect charges.
In fact, the power of this law is so great that it’s sensible to pay for expensive items with a credit card whenever possible because of all the consumer protection the law offers.
In practice, it’s very rare for a credit card issuer to ask a consumer to pay the statutory $50 charge.
During my 40-odd years of carrying one or more credit cards, I had had a few erroneous or (probably) fraudulent charges to my cards, but a simple phone call always made them “go away” and I have never even been asked to pay the $50 charge.
But note how many times I have used the word “consumer” in the past few paragraphs.
Here’s The Kicker
Under the FCBA and the later, more comprehensive Credit CARD Act of 2009, cards issued to a “business” (such as an LLC) are NOT “consumer” cards.
A great many of the protections consumers are granted under the FCBA, the CARD Act and other laws are lost if the card is issued to a “business”.
In oher words, a personal card issued to you as a private individual has a great deal more protection against fraud than a card issued to your LLC business.
Food for thought.
I’m not so sure an LLC provides much “protection” here.
Fraud Other Than Credit Cards
With money in a bank account (and you better hope your business has at least some), credit card fraud is actually one of your lesser concerns.
What about a situation where someone gets a hold of your debit card and PIN number and then goes to an ATM and keeps withdrawing until all your money is gone?
Or, suppose someone forges (or alters) a check from your business account? Ouch!
Under the law in most states you are well protected, as a consumer, from most acts such as this, as long as you have taken reasonable precautions.
But surprise, surprise, surprise.
Under most state laws an LLC is NOT a “consumer”, and in many cases, you are strictly on your own to fight for your rights with the bank involved.
Again, I’m not so sure an LLC provides much “protection” here.
Lawsuits. Everyone’s Big Concern
A key reason that business owners and managers choose to form a corporation or limited liability company (LLC) is so that they won’t be held personally liable for debts should the business be unable to pay its creditors.
But sometimes courts will hold an LLC or corporation’s owners, members, and shareholders personally liable for business debts.
When the court orders this it’s called “piercing the corporate veil.”
Some tips to avoid “piercing the veil”.
- Don’t commingle personal assets with those of the corporation or LLC.
- Don’t divert corporate or LLC assets for personal use.
- Make a reasonable initial investment in the corporation or LLC so that it is adequately capitalized.
- Don’t tell a creditor that you will personally guarantee payment of the corporation or LLC’s debts.
- Don’t use the corporation or LLC to engage in illegal, fraudulent, or reckless acts.
- Make sure the world knows it is dealing with a corporation or LLC by conspicuously identifying the company status (that is, “Inc.” or “LLC”) on all business cards, letters, quotes, invoices, statements, directory listings, advertisements, and all other forms of company communication. When signing company documents, clearly state your representative capacity (such as, “Jane Doe, President, Acme LLC.”)
If a court pierces a company’s corporate veil, the owners, shareholders, or members of a corporation or LLC can be held personally liable for corporate debts.
This means creditors can go after the owners’ home, bank account, investments, and other assets to satisfy the corporate debt.
But normally courts will impose personal liability only on those individuals who are responsible for the corporation or LLC’s wrongful or fraudulent actions; they won’t hold innocent parties personally liable for company debts.
A lot more authoritative advice here:
Courts might pierce the corporate veil and impose personal liability on officers, directors, shareholders, or members when all the following are true.
- There is no real separation between the company and its owners. If the owners fail to maintain a formal legal separation between their business and their personal financial affairs, a court could find that the corporation or LLC is really just a sham (the owners’ alter ego) and that the owners are personally operating the business as if the corporation or LLC didn’t exist.
- The company’s actions were wrongful or fraudulent. If the owner(s) recklessly borrowed and lost money, made business deals knowing the business couldn’t pay the invoices, or otherwise acted recklessly or dishonestly, a court could find financial fraud was perpetrated and that the limited liability protection shouldn’t apply.
- The company’s creditors suffered an unjust cost. If someone who did business with the company is left with unpaid bills or an unpaid court judgment and the above factors are present, a court will try to correct this unfairness by piercing the veil.
So Does An LLC Really Offer Much “Protection”?
Well, after reading this article and thinking things through, only you can judge if an LLC is right for you.
But one thing for sure.
An LLC often adds a great deal of overhead and expense to a “small-time” operator’s business, and it just might not provide as much “protection” as many “experts” parrot.
I’m Not Anti LLC — But You Better Think It Through.