corporation itself does not have enough assets to satisfy the claim. The creditor sees that the shareholders do have money, and seeks to get beyond the corporation to reach the individual’s personal assets. A recent study found that piercing the veil was successful 48% of the time. That is a huge success rate, and it points out that far too few entrepreneurs and investors are taking the necessary steps to protect themselves.
The advice in this book is designed so that you may set up your business (or hold your real estate or other assets) in its own entity, separate from you and avoid a piercing of the veil. Understand that we are dealing with a veil. Not a wall, not a mirror, not a net. It’s a veil – a sheer division where you can see the effect of what is happening, but you can’t actually touch it, and it can’t touch you. Unless it is pierced. Your corporation as a distinct entity is responsible for corporate duties and liabilities, and is entitled to credit and profit. If you set it up correctly, it will be a separate, compartmentalized entity, with limits and boundaries, all of which will benefit you. If not, all you have is a legal fiction. And obviously a fiction isn’t going to help you in a courtroom reality.
Taxes
Although it may not be pleasant (and certainly not riveting) you will also be reading about taxes. One of the surest ways to protect your assets and to keep your corporate veil intact is to keep abreast of the taxes and obligations facing your entity. As well, if you let deadlines pass and your taxes (especially payroll taxes) go unpaid, penalties and interest will accrue and you will run afoul of IRS and state taxation authorities. You may face civil and even criminal penalties. There is no need to pierce any veil in these cases. The IRS can hold you personally responsible straight away. So you will follow the tax rules. With a good bookkeeper and accountant on your team you can certainly legally minimize your taxes. And you can certainly use the tax rules to your advantage (as the rich do every day). That said, from day one and then on, you will follow the tax rules and timely file your taxes. Did we mention that you will follow the tax rules?
Good. Let’s start...
One of the reasons for writing this book is that scores of clients have said to me, “I’ve set up my corporation, now what do I do?” It’s hoped that this universal question will be satisfied by the contents of this book, and that you will be able to more confidently run your own corporation, LLC and LP. We have three cases, or stories, to help explain it all. So let’s start with our first one...
Case 1: Tom and Nancy
Tom and Nancy Green were professional engineers. Tom was Nordic, from the Pacific Northwest and had headed east for college. Nancy was half Irish and half Latina, from Texas and had headed north for college. They had met in graduate engineering school and married after just two months of dating. They were quite a couple, outgoing, athletic and hardworking. Tom was a good public speaker and was active in Toastmasters. Nancy was popular and tied into several networking and charitable groups. When they were out around town, jogging, biking or walking, they were always seen with their big, lovable Great Dane. The dog was named ‘Dooger’ and as many people in town seemed to know Dooger as they did Tom and Nancy.
After working for other engineering firms in the area Tom and Nancy had just recently gone out on their own. Nothing was set up or formalized, they hadn’t obtained any insurance, and they planned to set up an entity when they had time.
One of their clients was the Righteous Rock Quarry on the outskirts of town. The owner of Righteous Rock, Steve, operated as a sole proprietor. In thirty years of business, he had never been sued. Despite the advice of his attorney and accountant to operate through a limited liability entity (i.e. a corporation or LLC) for asset protection purposes, Steve rejected all such suggestions. He argued that he had plenty of insurance to cover any claim. He argued that he did not want the extra costs of an entity tax return and the extra fees to maintain an entity. And because Steve was the sole owner, and very set in his ways, Righteous Rock continued to operate as a sole proprietor.
One day late in September, out of the blue as earthquakes do, a 7.2 tremor struck the region. The quaking was prolonged and devastating. A weakened section of the quarry wall cascaded down on top of the employee locker room. Two employees died instantly.
Tom and Nancy happened to be at Righteous Rock that day, consulting with Steve. Luckily, all three survived the disaster.
Unfortunately, a great deal of expensive equipment was destroyed in the massive earthquake. Even worse, the families of the two workers told Steve they would be suing Righteous Rock as the responsible party for the loss of life.
Steve immediately contacted his insurance agent. He needed help with getting his operations up and going again as well as with the upcoming wrongful death lawsuit. Steve was stunned to learn he was not covered. He did not have an earthquake insurance policy. On his regular coverage, the quake was considered an Act of God, which specifically excluded the insurance company from responsibility for any and all claims.
Steve was livid and lashed out at anyone and everyone. He blamed Tom and Nancy for not alerting him to the weakened section of the quarry. They had a duty to warn him about it and thus were guilty of malpractice. Within weeks, Steve sued the couple to cover all his mounting damages, including the wrongful death suits.
Tom and Nancy were blindsided by this lawsuit. They had not yet set up an entity and so were considered general partners. There was no asset protection with a general partnership. They had not yet purchased professional liability insurance. There was no insurance company to cover the claim or defend them in court. All of their assets, the main one being their one real estate investment, a fourplex in their individual names, were now exposed to Steve’s wrath.
So Tom and Nancy had to use all of their savings to hire an attorney to defend them in court. After a lengthy and very expensive trial a jury found Tom and Nancy not guilty. One email from Tom to Steve suggesting that the employee locker room be moved away from the quarry wall was a huge help. And their overall defense strategy worked: The jury agreed that a massive earthquake was at fault, not Tom and Nancy.
When all the lawsuits were concluded, the earthquake’s continuing aftershocks left Steve destitute. As a sole proprietor, all of his assets were exposed. Not only did he lose the quarry but he also lost his free and clear house, his bank account and his boat. Steve would never recover.
As it was, Tom and Nancy were left drained, both financially and emotionally, from the experience.
It would take some time before they were back on their feet...
Choice of Success
Businesses come with decisions to be made, lots and lots of decisions. A primary decision is: What service or product will you sell? In other words: How will you make money?
Hopefully you will spend a good amount of time reaching the answer to this one. Consider what you are good at, what makes you happy, and whether you can succeed at it in business. Think about what it will take to finance a business, where you will get supplies, and where you will find customers. If you are considering opening an art gallery, you may imagine days spent buying and selling quality artwork. If you are thinking of becoming a life coach, you may fantasize about the people you will listen to and help. If you are planning to buy and sell real estate, you may study the ins and outs of making deals and anticipate your first closing. Let your mind wander on it all. Envision your success. But then be sure to come back to the reality of running a business. The paperwork and the details. The licenses and legal requirements. The business of running a business. Because to pursue your dream you have to be grounded
