Whether your corporation is small or large, an important aspect of maintaining and protecting the advantages of the corporate form is the regular observance of corporate formalities. The proper observance of corporate formalities will protect your shareholders from the imposition of personal liability for obligations incurred by the corporation. For example, closely-held or newly formed corporation often run into problems because they fail to scrupulously keep the corporation’s money separate from the personal funds of shareholders, directors, or employees. This is called a “commingling of funds" and may put the company at risk of being seized by persons suing a corporation. Courts may use the corporation failure to abide by corporate formalities as a reason to disregard the corporate entity and enable litigants to sue shareholders for corporation debts.
In addition to keeping corporate assets separate from personal assets, corporations should also follow corporate formalities in regards to shareholder decision making. For example, it is important for shareholders to annually elect the board of directors of the corporation. In addition, shareholder action is needed to document any fundamental changes to the corporation (e.g. amendment of the articles of incorporation, sale of all or substantially all of the corporation’s assets, merger or consolidation of the corporation, or a winding up and dissolution of the corporation).
Action by the board of directors concerning general operating policy also needs to be properly considered and authorized. Although there is no statutory requirement with respect to how frequently the board of directors should act, a good board should at least meet quarterly. The following are examples of matters that need approval by the directors: appointment of officers, the setting of salaries and declaration of bonuses, the appointment of officers, board committee appointments, opening of corporate bank accounts, any corporate borrowing, entering into certain kinds of contracts, adopting pension and employee benefit plans, declaring dividing or redeeming shares, amending bylaws, etc.
If you haven’t been following the proper corporate formalities for your business, you may be unnecessarily putting your business and its shareholders at risk. It is fairly easy to correct your corporate records before any unexpected litigation.