Five Things to Remember After Forming Your LLC
Congratulations on taking the leap to start your own business. Owning a business can be both frustrating and rewarding. As a small business owner myself, I also deal with many of the challenges of running a successful business. Having a corporation or other entity to operate your business provides an important barrier for personal liability, but only if you operate your business “like a business”. I tell my clients to think “Microsoft” or “Amazon”. If they wouldn’t do it, you should probably at least think about it before you do. I realize it is tempting to think that it is just me or me and other family members, so it doesn’t matter. But it does. If you don’t operate like a business, then you run the risk that if there is a dispute, a court or mediator will find that your company is merely the “alter ego” of you personally and pierce the corporate veil. They will look at many different factors and the determination depends on the facts of the specific case. If it is determined that your company is merely the alter ego of the owners, you can become personally liable for the debts and obligations of the company. This article doesn’t address all of the factors under the alter ego doctrine, but does serve as a good starting point.
1. Don’t treat the company bank account like your personal bank account. If you need to withdraw funds, it is either a loan or an owner distribution, and needs to be reflected properly on the books and records. Commingling of funds and assets is often one factor used to pierce the corporate veil. Any owner distributions need to be made pro rata based on ownership, so funds must be distributed to all of the owners, not just the one who needs the money. Either of these approaches have tax ramifications which should be discussed with your tax advisor.
2. There are only 2 ways to put money into the company. You can either make a loan to the company which is memorialized with a promissory note and minimum interest is charged if required by the IRS, or make an additional capital contribution. If your business needs additional funds, make sure to also discuss this with your CPA or tax advisor to consider the best way to get the money into the business.
3. Make sure to sign everything in the name of the company and not you personally. If your company enters into a lease or other contract, the document should be in the name of your business and you should sign as the President, manager, or other appropriate title. You should not enter into any contracts in your individual name.
4. Make sure to have adequate insurance and cash reserves for your business operations. Talk with your insurance broker about what types of commercial liability, errors and omissions and loss coverage is appropriate for your business. Often business owners don’t realize what insurance they need until something happens and they don’t have adequate coverage. Make sure that you keep adequate cash reserves for the operation of your business and unexpected occurrences. Small companies tend to underinsure and be undercapitalized. It is common to leave very little cash in the business. This tends to make your business look more like your “alter ego” and less like a stand-alone business.
5. Have Annual Meetings and Follow Other corporate formalities. The board of directors of a corporation must appoint the officers each year and the shareholders must elect the directors each year. This can occur at a duly noticed meeting or by written consent. Make sure to calendar this requirement each year. In addition, major actions or decisions of a corporation, such a purchasing real estate, expanding the business, hiring key employees, etc., should be approved by the Board of Directors and sometimes even the shareholders. Although limited liability companies have fewer corporate formalities, many actions still require consent of management and sometimes the owners, depending on the provisions in the operating agreement for the LLC and statutory requirements. These decisions should be reflected in minutes from a duly noticed meeting or by written consent.
There are many other factors to consider when operating your business and this article does not attempt to address them all. However, if you remember even some of the above, you are working to get your business off to a good start.