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The multi-member LLC can provide asset protection, exceeding even that available with a corporation’s “corporate shield.”
The following information is provided “as is” to give you ideas of what might be involved. A qualified attorney should be retained to prepare appropriate documents for signature. We are not attorneys, we do not practice law and we do not recommend acting until you retain a qualified attorney on your own.
Inadvertently breaking the “corporate shield”
Courts have identified a fair number of instances where they will “pierce the veil” and hold the officers, corporation shareholders or LLC members personally liable and/or legally attach company and personal assets. (for simplicity the words corporate, company, LLC and entity are used interchangeably in this list):
- Failure to segregate funds of separate entities.
- Commingling of company funds and other assets.
- ○ not properly maintaining separate bank accounts for the entity.
- Use of corporate assets for personal use.
- ○ using the entity’s bank account “as the owner’s personal checkbook.”
- Absence of any major corporate assets.
- Unauthorized diversion of corporate assets.
- ○ failing to maintain a strong board of directors and maintaining minutes of their meetings.
- ○ using money for non-business purposes.
- ○ using money without authority as granted in the minutes or operating agreement.
- Failure to maintain arms-length transactions.
- ○ transactions with owners treated more preferentially than might be with 3rd parties.
- ○ failing to authorize loans or advances between entity and owners in the minutes or operating agreement.
- ○ failing to maintain written interest bearing loan agreements.
- ○ failing to charge and pay adequate interest on loans and advances.
- ○ failure to make appropriate periodic payments of interest and principal.
- ○ failure to pay appropriately competitive wages to the owners.
- Failure to adequately capitalize the corporation.
- ○ failure to transfer some assets into the corporation. i.e.Underfunding the corporation
- ○ failure to issue corporate stock or maintain corporate ledger.
- ○ failure to actually pay for your common stock or interest in the entity.
- Unauthorized issue or subscription of shares.
- Use of the corporation for illegal or fraudulent transactions.
- Meetings & Records:
- ○ failure to have regular board of directors’ meetings.
- ○ failure to have annual shareholders’ meetings.
- ○ failure to have the required initial organizational meeting.
- ○ failure to maintain up-to-date corporate records.
- ○ failure to adopt corporate by-laws.
- ○ failure to get the proper state and local business licenses in the name of the corporation.
- Taxes & Fees:
- ○ failure to pay taxes, particularly “trustee” (payroll) taxes.
- ○ failure to pay required Secretary of the State fees.
- ○ failure to file required (annual) Secretary of the State forms and fees.
- Failure to advertise and serve notice that the business was operating as a corporation i.e. holding yourself out as a corporation ( letterheads, etc. and always sign documents as the corporate officer, not just personally)
Some Court Cases:
On March 2, 2004 the US Supreme Court decided Yates. Dr. Yates had a corporation with employees in addition to himself and his spouse and as such under ERISA was able to protect his profit sharing plan from creditors.
On April 4, 2003 the United States Bankruptcy Court decided Albright. Ms. Albright had a single-member LLC plan that was unable to protect assets from creditors because it was a single-member LLC. This has no effect on liability shields
On January 13, 2005 the United States Bankruptcy Court decided Fiesta Investments. This multi-member LLC was unable to protect assets from creditors because of the non-business-like manner it was run. This has no effect on liability shields
On May 18, 2005 a United States District Court decided F.A. Littriello,. The “corporate shield” protecting the assets of the owner was ignored by the court because this single-member LLC chose not to elect to be treated as a corporation. Held: the debts of the SMLLC were the responsibility of the individual owner not as an agent of the SMLLC. The court relied on Chevron analysis and Kintner regulations in making its final ruling.
On May 17, 2006 a United States District Court decided Townley. Since the setting up of their separate entity and the related planning was admitted to be done for “asset protection” to protect assets from future unknown creditors, the court ruled that this was enough to prove that their actual intent was to engage in a fraudulent transfer. The creditor (The Internal Revenue Service in this case) was given the assets to satisfy their unpaid taxes.
On April 13, 2007 the United States Court of Appeals decided Littriello. Mr. Littriello had several single-member LLCs and was unable to protect any assets from a tax levy because they each were single-member LLCs that were “disregarded.”
On June 24, 2010 the Florida Supreme Court decided Olmstead. Shaun Olmstead, et al. had several single-member LLCs against which the Court ruled in a split-decision that “Florida law permits a court to order a judgment debtor to surrender all right, title, and interest in the debtor’s single-member limited liability company to satisfy an outstanding judgment.” The Olmstead decision and the problem of single member LLCs http://uberlaw.net/
On March 3, 2011 the New York Supreme Court decided Rossignol v. Rossignol. In this divorce case the legal rights and protections of their two-member husband-wife LLC were basically ignored when the appellate court affirmed: “Inasmuch as the husband and wife are the only owners of the LLC, and both are parties to the divorce action, we see no reason why any issues should be left for resolution after equitable distribution of the parties’ property. Given the availability of complete relief pursuant to Domestic Relations Law §234 and our public policy of resolving equitable distribution within the context of a divorce action, we conclude that dismissal of the second action was within Supreme Court’s broad discretion.” This now opens the door for possible further attacks against the LLCs legal structure, by piercing the corporate veil.
In 2014 the Wyoming Supreme Court said that being a SMLLC “disregarded entity” for tax purposes was a factor it considered in addition to GreenHunter Wind Energy a LLC being undercapitalized (without enough assets to pay its obligations) to pierce the veil.
Single-Member LLCs and Asset Protection: A 50-State Guide
Under the default rules of many of the State LLC acts, upon the death of the member of a single-member LLC, the member’s management rights cannot pass to another person without the consent of “the other members.” Arguably, this means that upon the above death, the LLC has no members (since there are no “other members” to approve a transfer of management rights) and thus, under many state LLC acts, while a single-member LLC’s assets pass to the member’s estate upon the member’s death, the LLC itself ceases to exist. Therefore the estate now has no liability shield for the terminated single-member LLCs business operations unless it creates a new LLC and contributes the above assets to it, and how this would protect against pre-death acts or liabilities is questionable at best. This Catch 22 shows just how important it is for single-member LLCs to have written operating agreements that alter otherwise harmful statutory default rules. Otherwise, just avoid the use of SMLLCs in the first place.
Different States offer different levels of Asset Protection. See discussion on Choosing a State to be formed in.
Also see “charging orders”