Every bit of effort put towards the maintenance of your business is worth it- especially if such maintenance helps shore up the business against claims of third parties. Taking steps to incorporate (i.e., form a corporation) or organize a limited liability company in Wisconsin does not magically make a business owner’s personal assets separate and invulnerable. Automatic limited liability is a myth – Entity formation alone, without proper organization and maintenance, will not make the owners bullet proof.
With this post, and my upcoming posts I plan to walk readers through some of the key elements they should be aware of relating to limited liability upkeep.
As part of our Small Business Counsel Membership, we help our clients evaluate whether they have adequately capitalized their businesses. If they have, we help them document it properly in their business records. If they have not, we point them to trusted professionals to help them fill in the gaps.
Element No. 1: Adequate Capitalization.
So, in the next few paragraphs, I hope to answer the following often asked questions: What is Adequate Capitalization? Why should you be concerned?
What is Adequate Capitalization?
A business has adequate capitalization if it has sufficient capital to cover its foreseeable operations and obligations. To satisfy this test, ask yourself: (1) “Do we have enough cash to support our day to day business activities?” (2) “Do we have enough assets to satisfy our known liabilities?”
As for question #1, as a small business owner you are most likely up to you eyeballs in your day to day business activities, so I will say no more.
Question #2, however, requires some pause. Some of you may be thinking, YES! We are adequately capitalized, we are debt free and no one has sued us for years! You may be doing a dance, or attempting to awkwardly pat yourself on your back, or your business-partner-in-crime’s back, who has awkwardly started walking in reverse to avoid you. Others may have just navigated away from this post because their known liabilities were last thing they wanted to think about AGAIN, for the 10th time today.
Regardless, both schools of thought should continue reading, because … Wait, there’s more!
What are known liabilties? Now the plot twist: If you type “knwn” into your phone, auto-correct will likely type “omen” in its place. The issue with “known” is that it really means = “should you have known your business could have had that sort of liability.”
So what can you do? Well, it depends on several factors that are particular to your business- a discussion that is better reserved for an initial consultation with an attorney. However, for unknown liabilities insurance can factor into the equation, and fill in some of the gaps.
I have found that, recently to a greater extent than before, courts have scrutinzed whether a business has maintained adequate capitalization in determing whether to disregard the business entity and make the owner’s personal assets available for damages. In these veil piercing actions, the corporate veil was busted primarily for lack of adequate capitalization. In Wisconsin, courts apply the corporation veil piercing standards to limited liability companies as well.
Thus, all that said, business owners should take the time to analyze their operations and obligations, their insurance coverage, and make sure they institute a small business maintainenance plan for annual upkeep.
See our Small Business Counsel Membership page for how we help our client with their small business maintenance needs.