Q: I own multiple corporations, each of which operates its own restaurant, but I often loan money between the companies. Am I subjecting myself to any potential liabilities by doing this?
A: Well, it depends! When an individual owns and/or operates a corporation or a limited liability company, the business entity is usually considered its own “individual” and separate legal entity with its own obligations, assets, and liabilities. Generally, these business entities will provide their owners with protection from personal liability for obligations within the business. However, in certain circumstances, Michigan courts ignore the corporate form and will hold the owner personally liable for debts or obligations of the business entity. This concept is known as “piercing the corporate veil,” and the question above poses a potential risk of facing this type of liability.
Although the Michigan Courts have established a number of different tests to determine whether the corporate veil is pierced, we will focus this discussion on whether the business entity is “a mere instrumentality of another entity or individual.”
When determining if an entity is a mere instrumentality, the Courts have reviewed whether: (1) the corporations keep separate books, (2) the corporate formalities been followed, (3) the corporation undercapitalized, (4) there are separate finances for the corporation, (5) the corporation has been used for fraud or illegality, and (5) if the corporation is a sham.
A: Well, it depends! When an individual owns and/or operates a corporation or a limited liability company, the business entity is usually considered its own “individual” and separate legal entity with its own obligations, assets, and liabilities. Generally, these business entities will provide their owners with protection from personal liability for obligations within the business. However, in certain circumstances, Michigan courts ignore the corporate form and will hold the owner personally liable for debts or obligations of the business entity. This concept is known as “piercing the corporate veil,” and the question above poses a potential risk of facing this type of liability.
Although the Michigan Courts have established a number of different tests to determine whether the corporate veil is pierced, we will focus this discussion on whether the business entity is “a mere instrumentality of another entity or individual.”
When determining if an entity is a mere instrumentality, the Courts have reviewed whether: (1) the corporations keep separate books, (2) the corporate formalities been followed, (3) the corporation undercapitalized, (4) there are separate finances for the corporation, (5) the corporation has been used for fraud or illegality, and (5) if the corporation is a sham.
Loaning money between corporations does not necessarily result in the piercing of the corporate veil, but you must respect the corporate formalities, keep separate books and records, and treat each entity as its own separate “individual” by documenting each of the loans with promissory notes and make actual payments between the business entities in accordance with the promissory note terms.
Consider precisely following these procedures to reduce your exposure to piercing of the corporate veil arguments:
If you have any questions or need help establishing a process to respect your corporate forms, please contact a professional.
Consider precisely following these procedures to reduce your exposure to piercing of the corporate veil arguments:
- Establish and comply with the corporate formalities for every corporate entity that you own.
- Keep all corporate entity accounts separate from each other and separate from personal accounts.
- Keep all corporate entities distinct from one another
- Do not use any corporate entity funds for personal expenses or for the expenses of other corporate entities.
- Keep records and track all meeting minutes.
- Hold scheduled board meetings, comply, and follow the respective corporate entity bylaws or operating agreements.
- Document and authorize any inter-company transactions.
If you have any questions or need help establishing a process to respect your corporate forms, please contact a professional.
