So you just started your business, congratulations! You are now your own boss and are embarking on a journey of independence. At Thooft Law, after helping you select the right formation and registering your business, we help guide you towards the path of success by advising you on your business operations. In this second series of our business blog, we address the most common do’s and don’ts every new business owner should do to protect yourself and your business.
Piercing the Corporate Veil
A “corporate veil” is a legal concept that separates the personality of a corporation from the personalities of its owners, and protects them from being personally liable. In other words, think of it as a cloak of protection. If you organized your business as a corporation of limited liability company, the goal is to protect yourself or the shareholders from being held personally liable for the business’s debts. And although a corporation or limited liability does do that, the protection is not impenetrable.
“Piercing the corporate veil” is a legal theory that allows the owners of a business to be held personally liable for the debts or acts of the company. In other words, the cloak of protection was penetrated and you can now be named personally in a lawsuit. Each state has its own set of rules for showing that the corporate veil was pierced. In Minnesota, the courts use a two-part test: alter ego and avoiding injustice or unfairness.
- Alter Ego – this focuses on the owner’s relationship with his business and the legitimacy of the formation. An alter ego essentially means the company is only a legal cover or shield for the owner. The court considers the following factors:
- Insufficient capitalization of the corporation;
- Failure to observe corporate formalities;
- Failure to pay dividends;
- Insolvency of the debtor corporation at time of transaction;
- Siphoning of funds by the dominant shareholders;
- Non-functioning of other officer and directors;
- Lack of corporate records
- Existence of the corporation as a facade in individual dealings.
Victoria Elevator Co. v. Meriden Grain Co., 283 N.W.2d 509, 512 (Minn. 1979). Not every factor has to be present in order for the first prong to be met. Usually the presence of several factors is sufficient to prove an alter ego exists.
- Avoiding Injustice or Unfairness – this requires proving that piercing the corporate veil is necessary to avoid injustice or fundamental unfairness. The court must find that failure to hold the owners personally liable would be an injustice of fundamental unfairness. The court may choose to find the second prong satisfied based on the first prong. This means that if the court determines prong one was met, they may also determine that prong two is met as well.
Do’s and Don’ts
The factors under the first prong speak for themselves but these are some general do’s and don’ts.
- Hold required meetings
- Have a separate business checking account for each business
- Maintain records and receipts
- Pay dividends
- Follow all laws regarding employment (more on the next blog)
- Check in with your corporate attorney regularly
- In general, keep records for at least 7 years
- Co-mingle personal and business funds
- Treat your business account like a personal account
- Transfer or wire money between accounts
- Co-mingle money from different business accounts
- Throw out records newer than seven years
Trademark or Servicemark
You may want to consider a trademark for your company if you sell goods, or a servicemark for your company if it offers a service (both commonly referred to as just trademark). The United States Patent and Trademark office allows you to trademark a brand name, slogan, logo, word, phrase, symbol, or design. The main benefits to a trademark are:
- Nationwide exclusivity,
- Legal nationwide ownership,
- Protection against infringement,
- Brand recognition
- And allows you to use of the symbol ®
A trademark can last forever as long as it is used, fees are paid, and documents renewed. This is good news if you will be operating your business for long-term. This could also mean that if the trademark you want is already registered, you may have to choose something different to distinguish it. This is because the United States Patent Office only allows the same trademark if each is offering a different good or service. For example, the trademark “SunTan” can be registered for a traveling business, a lotion manufacturer, and a tanning salon. This is because each business is different from each other.
Setting up a corporation or a limited liability company is not an impenetrable protection against personal liability. It is important to understand the requirements of your business and to conduct your business in a compliant manner to protect yourself and your business. Of course, those requirements may be different depending on its makeup. Trademarks add an extra layer of protection against infringement. At Thooft Law, we have successfully advised companies and defended them in large civil litigation cases. Our firm acting as an in-house legal counsel will give you and your business comfort and peace of mind.