Sharp business owners know that there are numerous benefits of incorporating, so much so that it is an essential part of entrepreneurship. Incorporation can lower tax bills, ensure business longevity and increase legitimacy in the eyes of investors and the public. Of course, one of the biggest reasons to incorporate is to protect personal assets from the liability of a businesses. Losing your entire life savings due to business issues is the stuff of nightmares, and forming a limited liability corporation goes a long way toward alleviating that particular stress.
Of course, incorporating is not necessarily the end-all-be-all of personal asset protection. There are a number of circumstances where you may still be held personally liable for what happens in your corporation or LLC. Being aware of these situations is the first step to understanding and avoiding them.
Have you personally guaranteed a business loan?
New and small business owners may be asked to personally guarantee bank loans, rental applications or supplier relationships until a company has taken root and built its own credit. Signing a personal guarantee for a loan means agreeing to personally pay the loan back if the business is unable to. This means that you have given up your limited liability for that particular debt, even if your company is incorporated, or incorporates at a later date. If things ever take a turn for the worse and your business can't pay the rent or make payments on a loan you will be held responsible.
It is best to avoid signing personal guarantees for business contracts wherever possible.
Did you sign a contract in your own name?
This is a scarily easy way to lose limited liability by mistake. How you sign purchase agreements and business contracts can be the difference between your assets being protected and being at risk. If you sign as an individual — simply signing your name Jane Doe, for example — you have agreed to be personally liable for the debt. Signing the contract as a representative of the company on the other had — Jane Doe, CEO of Doe Dealership — makes the business liable.
This is a terrible way to lose asset protection because it is a result of pure carelessness. Always sign business documents as an officer of the company.
Did you fund a purchase with a personal credit card?
New entrepreneurs will find that it can be difficult to untangle the twisted web of personal and business finances. Starting a new company often means dipping into your own resources. While it might seem normal to pay for a business expense with your own credit card, remember that this immediately make you personally liable for the debt that purchase incurs.
Often times it does not matter whether your business's name is on the card or not. It is imperative to check the terms of the credit card application you signed before using a card with your name on it to make purchases you do not wish to be personally liable for.
Did you commit a crime?
Protection from personal liability might seem great if you are planning on becoming a criminal, but in the case of corporations and LLCs you would be plumb out of luck. Incorporating does not protect you if you break the law. Also, if you lie about any details about yourself or your business on a local or credit application for your company chances are you will be held personally liable for the debt.
Have you kept your corporation in compliance?
There are a number of formalities and regular filings that must be completed, based on state law, for a corporation to continue existing. Make sure you are reporting regularly to the state to avoid non-compliance, which can negate the protections of incorporating.