How Veils are Pierced

Many business owners mistakenly believe they can maintain a strong corporate veil by themselves or receive comprehensive corporate governance support from their lawyer, accountant or financial advisor. Often these professional consultants lack the expertise, the infrastructure and the follow-through necessary to effectively protect your corporate veil. And, if they do offer corporate governance support it is normally at a much greater cost to you. If you’re wondering about this, ask yourself the following questions:

1. Are you or your consultant actively monitoring all your business entities (corporations, LLCs, limited partnerships) on an ongoing basis to ensure they are in compliance with applicable corporate governance requirements?

There are dozens of different reasons courts might use to “pierce your corporate veil” and hold you personally liable. Examples include undercapitalization, commingling, overlap, personal guarantees and non-functioning officers and directors. Unless you understand all the compliance rules and continually monitor your obedience to them, you are at risk.

2. Since you created your business entity, how many formal shareholder, director or manager meetings have you held or have your consultants organized, facilitated, and documented for you? Do they know and abide by the meeting requirements for your specific entity type(s)?

The law requires business owners to regularly hold formal corporate meetings to conduct the affairs of the business. Certain meetings must be held periodically; other special meetings are required whenever the business is contemplating a major business decision (e.g. investment, restructuring, purchase or sale of assets). These meetings must be held in compliance with corporate law requirements as well as rules defined in your corporate bylaws, partnership agreement, or operating agreement.

3. Is your consultant maintaining a complete written record of all documents for your business entity and continually updating and archiving them to reflect all your ongoing compliance activity? Have they created, distributed, and archived the required documentation to support your corporate meetings? (e.g. notices, proxies, waivers, agendas, resolutions, minutes)

A business entity is controlled by a set of documents, some of which must be registered with the Secretary of State. Examples of critical business documents include Articles of Incorporation or Organization, Bylaws, Stock Certificates and Ledger, and Redemption Agreements. The full set of documents form the “corporate record”.

Together, these documents contain important rules that govern the business and its owners. Part of ongoing corporate compliance involves reviewing and updating documents in the corporate record so they are complete, accurate, and congruent and operate to the same end, rather than conflicting in any way. It is also particularly important to maintain comprehensive records of corporate meetings. These include notices of scheduled meetings, resolutions documenting decisions made in the meetings, and minutes that record meeting events. Business owners who fail to maintain complete corporate records lack the critical evidence they will need to withstand legal or audit scrutiny.

4. Is your consultant tracking corporate governance milestones and deadlines on your behalf and informing you when actions need to be taken, describing what actions are necessary, and following up to ensure tasks are completed correctly and on a timely basis?

Business owners have a recurring set of tasks and actions that they must perform to maintain proper corporate governance. A variety of meetings, filings, registrations, and documentation must consistently occur to keep your business entity compliant. Unless each milestone and deadline is understood, tracked, completed, and recorded, the business entity falls out of compliance, creating significant liability problems for the owners.

5. Is your consultant analyzing both your business documentation and your behaviors as a business owner to help you avoid any corporate compliance mistakes of omission or commission?

There are certain actions that business owners must consistently perform, and others that they must consistently avoid. Following company bylaws and maintaining proper documentation of loans are two examples of actions that must be performed. Commingling of personal and corporate funds and overlap of assets between different business entities are two examples of actions that must be avoided. Reviewing both behaviors and documentation to avoid mistakes of either omission or commission is essential for corporate governance.

6. Is your attorney or business consultant advising you on the statutory and common law reasons for veil piercing at the federal and state level, and recommending specific strategies to help you avoid them?

Courts rely on both statutory law (laws created by legislatures) and common law (precedents established by the courts) at the federal and state levels to determine whether to pierce corporate veils and hold business owners personally responsible. Examples of statutory reasons for veil piercing include ERISA retirement plan violations, Medicare disputes, labor disputes, and tax violations. Examples of common law arguments for veil piercing include Alter Ego, Misrepresentation, and Domination & Control. Understanding the differences behind the various veil piercing arguments is necessary to devise an effective compliance strategy. If you don’t know what the rules are, you certainly won’t be able to keep them.

What Happens if You Lose Your Corporate Veil?

A court will ignore your corporation’s existence if you fail to keep one or more rules of corporate governance. When this happens, your liability protection disappears and your personal assets are completely exposed. Transactions can be undone; asset ownership can be challenged and new tax liabilities can appear. It’s as if your business entity never existed. In essence your business may be treated a sole proprietorship or general partnership with all the inherent exposure.

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