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What is piercing the corporate veil, and how do you avoid it?

The "corporate veil" refers to the wall of protection that separates your personal assets from your business’ assets. Piercing the corporate veil tears down this wall, making you personally liable for your business activities. Fortunately, there are several precautions you can take to reduce the chances of this happening.

What it means to piece the corporate veil

When you set up your business as a corporation or LLC, your business becomes its own entity. That means that it’s a person in the eyes of the law. You still manage your business, but if something goes wrong, your personal assets won’t be at risk.

Sometimes, however, that wall between you and your business loses its power. Each state has its own rules on what piercing the corporate veil requires, but a few general guidelines apply across the country.

Knowingly taking on debt while your business is insolvent, or being involved in fraud, often pierces the corporate veil. Operating your business as if it were a personal possession, even if you registered as a corporation or LLC, can also have the same effect.

Consequences for piercing the corporate veil

If you lose your liability protection, creditors will be allowed to seize your personal property to collect on debts. This could include your car, your home, and other valuable possessions. You could also face legal consequences if the corporate veil was pierced due to fraud or similar actions.

How to avoid piercing the corporate veil

Talking with a local attorney will be the best way to discover how local laws affect what will pierce the corporate veil, but in general, the following steps will protect you.

Step 1: Properly register your business entity

Whether your business is a corporation or LLC, make sure you file the correct documents and comply with all relevant regulations.

Step 2: Document everything

Whenever you make a major business decision or hold significant meetings, keep a record of it. The record should include the topics discussed in the meeting as well as who attended. This will show that your business is not merely a tool you use to shield yourself from taxation.

Keeping detailed financial records is also important. If you take out a loan, be prepared to show that your business had enough assets to repay the debt when you applied for the loan.

Step 3: Don’t blur the line between business and personal assets

Keep separate bank and credit accounts for yourself and your business. Do the same for equipment, such as vehicles and office technology. You wouldn’t take a company car for a family vacation, just as you wouldn’t use your personal credit card to finance new office furniture.

Step 4: Keep your business solvent

If you can show that your business is able to pay its debts, you’ll be protected against most corporate veil issues.

Step 5: Adopt bylaws for your business and observe other formalities

Your bylaws (or operating agreement) outlines a code of conduct for your business. Having the laws on record—and abiding by them—serves as another way to keep yourself separate from your business.

Observe other formalities as well. Identifying your business entity on letterheads, business cards, and other stationery helps show that you are acting on behalf of your business. You should further this by representing yourself as a member of your company, not simply an individual. (e.g. "John Doe, CEO, Amazing Widgets LLC" instead of "John Doe.")

Lastly, corporations may have additional formalities to follow, such as having an annual meeting of the board of directors.

When in doubt, ask for help

Each state has different ways of handling corporate veil cases. For example, attorney Douglas Pettibone says that "California courts are generally reluctant to pierce the corporate veil," but are not afraid to do so in cases of "injustice."

If you have questions about regulations in your area, you should contact an experienced attorney. This is especially true if your business is facing financial difficulties and you’re afraid that the situation might pull your personal assets into the mix.

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