Why do I want an entity anyway?

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            As you start a business, you may wonder why you just cannot do it on your own, under your own name.  Absolutely, you can.  You can be a sole proprietor and even operate under a business name, “doing business as” (“d/b/a”) a clever name.  If you operate as a sole proprietor, however, you and your business have a single identity.  If the business is sued, you are sued.  If the business has liability, you have liability.

 

            The same is true of partnerships.  General partners in a partnership are subject to personal liability if the partnership is sued.

 

            If you form a limited liability company or a corporation to operate your business and hold all of your assets, it has an identity separate and apart from you or its owners, generally.   If it is sued, absent specific circumstances, only the business is sued.  The entity formation affords its owners (you) protection from liability arising from the operation of the business.

 

            Liability protection is the most compelling reason to form an entity to operate your business.  So, if you form an entity to protect yourself from your company’s liabilities, there are a few things to keep in mind.

 

1.         Maintain separation between  yourself and your company.  Keep assets and money separate.  Don’t pay company bills from personal accounts – or personal bills from the company account.  Use company assets for company purposes.  Keep company records of important decisions.

 

2.         Avoid acting recklessly or fraudulently.  If a company acts recklessly or fraudulently, a court could find that the recklessness and fraud overcome the entity protection.

 

3.         A court may also pierce a corporate veil to remedy an unjust cost to a third party.

 

As you form and operate your entity, you should take care to follow corporate formalities.  It may seem silly in closely held companies, but holding annual meetings, keeping accurate and detailed records of important decisions, adopting bylaws (and following them) will help to preserve your separate entity.

 

Additionally, avoid comingling assets.  Separate bank accounts for the business entity are essential.  Also, think about how you might be using a vehicle “owned” by the company.  If you use it for both business and personal trips, try to record the business use to substantiate the separation.

 

            Clearly, if you can distinguish the business from yourself, you want to form an entity to operate it, so that you may avoid responsibility for the business entity’s liabilities.  In the next post:  different kinds of entities and their purposes.

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