Who is Liable in an LLC: Everything You Need to Know
Who is liable in an LLC is a common question for new business owners and it's important for them to be aware of the LLC structure along with its many benefits.3 min read
Who is liable in an LLC is a common question for new business owners. It is important for business owners to be aware of the LLC business structure, along with its many benefits. One of these benefits is the limited liability protection that the LLC offers its owners. Similar to a corporation, the LLC owners, also referred to as members, are generally not personally liable for the debts and obligations of the business. Therefore, if a legal suit is brought against the LLC, the personal assets of the owners are protected.
However, while this is one of the biggest benefits of the LLC business structure, this protection isn’t absolute, as there could be an instance when a plaintiff could “pierce the corporate veil” and hold an LLC member personally liable.
Limited Liability Protection
As previously noted, similar to the shareholders in a corporation, LLC members can’t be held personally liable for the business debts. This means that all personal assets of the owner(s), i.e. home, car, personal bank accounts, personal investments, etc., cannot be touched. The only investment that the LLC owners could in fact lose is his or her initial capital contribution in the LLC. While this protection is generally offered to all members, there are some circumstances when the member(s) might be personally liable for such debts and liabilities of the LLC.
Some of these exceptions include the following:
- If the member injures someone
- If the member personally guarantees a bank loan for the LLC
- If the member fails to pay taxes on his or her portion of the business profits
- If the member acts fraudulently, illegally, or recklessly and such action(s) harms the business or someone else
- If the member treats the LLC as an extension of him or herself
Undoubtedly, if a member acts illegally or fraudulently, then he or she will be held personally liable. This doesn’t mean that all members will be liable, only those who acted illegally. Furthermore, an example of a member acting recklessly includes a member obtaining several business loans with the knowledge that the business will not be able to repay such loans. Alternatively, it could also include the member obtaining business loans and then using such funds for personal use. Such action would also constitute illegal and fraudulent activity, along with treating the LLC as an extension of oneself. Therefore, some of the above circumstances can overlap.
Some other examples of a member treating the LLC as an extension of oneself includes co-mingling personal and business assets, or otherwise acting as though he or she has complete and utter control over the LLC as though it is nothing more than an alter ego of the member.
Actions to Prevent Personal Liability
In order to prevent any of the above circumstances from arising, you should ensure that all members act fair and legally. Don’t misrepresent yourselves or your company. Don’t lie about your finances to potential clients, vendors, suppliers, etc.
Next, you should all ensure that your LLC is funded appropriately. You don’t want to obtain a business loan if you know that you will be unable to pay it back with interest. Be sure to invest significant capital to keep your business afloat.
You’ll also want to keep all personal assets separate from the business assets. This is why it is important to open a business bank account and credit card. Another way to ensure separation is to obtain an Employer Identification Number (EIN) from the IRS. This is essentially a Social Security Number for businesses.
Draft an Operating Agreement. This document will provide formalized procedures for all business decisions. It can also help create a separate existence of your business.
Another idea is to obtain business insurance. This can help protect your personal assets from liability. While it can’t protect you from liability in the event of fraud or illegal practices, it can prevent liability if you inadvertently injure someone else. An example of this would be a massage therapist accidentally injuring someone’s leg when performing a massage.
If you need help learning more about the limited liability protection exceptions, you can post your legal need on UpCounsel’s marketplace. UpCounsel accepts only the top 5-percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law, and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.