Can You Lose the Protection Against Liability That a Corporation Provides?

Is the Protection Against Liability Absolute? If Not, When Can It Be Lost?

When you’re starting a new business enterprise and considering the different business structures available, one of the most attractive attributes of a corporation is the protection it provides against personal liability for the debts of the corporation. When you establish your business venture as a corporation, your personal liability is limited to the amount of your investment in the company, i.e., the cost of the stock you purchased. Your stock may be devalued, but you cannot be held personally responsible for any obligations of the business. Is that protection absolute, though? Are there ways you can lose the protection against liability that a corporation provides?

Piercing the Corporate Veil

While the protection of the corporate form is strong, it can be jeopardized by a legal tactic known as “piercing the corporate veil.” As a general rule, a corporation is considered a separate legal entity, wholly apart from its shareholders. In certain instances, though, a court may choose to disregard the legal separation between shareholder and corporation and find that a shareholder has liability for the actions of the corporation. Actions that may lead a court to “pierce the corporate veil” include:

• Failure to maintain a clear separation between the corporation and the shareholders—If a shareholder takes actions that make it appear that the corporation is simply an extension of, or “alter ago” of the shareholder, the shareholder may be held personally liable. For example, if the shareholder commingles personal funds with the corporation, or uses corporate property as if it were personal property, the corporate veil may be pierced and limited liability lost.
• Failure to provide adequate operating capital for the business—Particularly when a company is undercapitalized from inception, a court may construe incorporation as a tactic to defraud creditors.
• Failure to follow corporate reporting requirements or other formalities—If a company fails to hold required shareholder meetings or submit required reports, it may be considered to be acting as something other than a corporation.
• Illegal or fraudulent activities—Courts typically do not allow shareholders to escape liability for fraud or other illegal activities by hiding behind the corporate veil. Tax evasion and misrepresentation are common grounds for losing the liability protections of a corporation.

Contact MCIS Law

At MCIS Law, PLLC, in Stafford, we provide comprehensive counsel to businesses and business owners throughout southeast Texas, handling all matters related to business formation. For a confidential consultation with an experienced and knowledgeable lawyer, email us or call our office at (346) 297-0121. We accept all major credit cards.