What Is the Corporate Veil and How Do You Avoid Piercing It?
If you’ve established a corporate entity to limit your personal liability for your business or healthcare practice, beware of the missteps that can undermine this protection.
The “corporate veil” protects business owners in a corporation or an LLC by shielding them from being held personally liable for their business activities. If that veil is “pierced” (meaning, broken), the business owner may be held personally liable for business debts.
These debts may come from lawsuits that arise from breaking a contract or personal injury. The judge in a lawsuit decides if the veil is pierced, and they do so more often when a business owner:
- mixes their own funds with the funds of the business
- fails to maintain proper business protocols
- doesn’t adequately fund the business
How is the corporate veil pierced?
Generally, the judge will apply a two-part analysis to determine whether or not the veil should be pierced:
First, have an owner’s business and personal interests become too intertwined, to where one could view them as one entity?
The judge will consider the capitalization of the business (how much money the business has), its adherence to regular business practices, whether officers are actually doing their jobs, and how recordkeeping is maintained, among others. Claims for veil-piercing commonly arise under this part of the test. If this element points to a lack of separation between business and personal interests, the judge is more likely to pierce the veil and hold an owner personally liable.
Second, courts consider what would happen if the business and its owner’s assets are treated separately.
In some states, courts put more weight on whether or not the business was used to commit fraudulent misconduct—especially if evidence of fraud or misconduct has resulted in injustice to injured parties. If piercing the veil would help fix the unfairness, the judge may apply veil piercing as a corrective measure.
Overall, judges tend to be reluctant to pierce the veil in non-extreme circumstances. Nonetheless, it’s imperative to shield your business and yourself from this potential source of liability.
How do I avoid having the corporate veil pierced?
There are several practices you can institute to protect your personal assets from liability. We recommend the following (at the least).
Make sure you’re not undercapitalized (fund your business)
When businesses do not have enough capital to function independently, creditors and courts may consider it a sign that the business could be dependent on outside interests.
Don’t commingle your business assets with personal assets.
A few ways to avoid commingling is:
- Keep separate bank accounts for business and personal assets
- Maintain separate bookkeeping
- Avoid diverting any corporate assets for personal use
- Avoid using any personal funds to pay company bills
Don’t sign documents in your own name.
Sign all contracts, leases, and other contracts related to the business’s operation in your role as an officer, manager, or member of the business.
At a minimum, you should write your title and organization in the signature line, such as, “Morgan Brown, as Manager of CTJ Health, LLC.” But for even more clarity, our firm recommends that you execute documents like this:
Maintain detailed records of company operations.
Establish record-keeping policies and bylaws (for corporations) or an operating agreement (for LLCs) and make sure you follow them. Maintain your business’s documents, such as resolutions, detailed minutes of company meetings, decisions, and actions.
Keep up with state filings.
Most states require that you file an annual report. Also, keep your business license up to date and compliant with state law.
Though veil-piercing is not an exact formula, implementing these steps can help distinguish between what belongs to the business versus what belongs to you. This way, a judge will be less likely to pierce the corporate veil and hold you personally liable.
Are you launching a new healthcare-based business or ready to establish a corporate entity for your existing healthcare practice or business? If so, reach out to the experienced lawyers at Jackson LLP Healthcare Lawyers for additional guidance.
This blog is made for educational purposes and is not intended to be specific legal advice to any particular person. It does not create an attorney-client relationship between our firm and the reader. It should not be used as a substitute for competent legal advice from a licensed attorney in your jurisdiction.