Blog | Entrepreneurship

7 Steps to Achieve Limited Liability

How to Protect Yourself and Your Business

There are many things that can go wrong when starting a business, including how you set up your entity.

For example, I had a client who was a plumber in my home state of Nevada. He had been at it for five years and saw some real success during those years. While he was a good plumber (really good) legal matters like setting up his business weren’t his strong suit. My client, instead of consulting with a professional to set up his business, relied on his part-time bookkeeper for suggestions.

Knowing nothing about filing paperwork, or forming a corporation, my client’s bookkeeper suggested he operate as a sole proprietorship. After all, there’s little to no paperwork. So for my really good plumber (but terrible lawyer client), it seemed like the right thing to do.

Well, as you’ve probably guessed by now, things didn’t go so well for my plumber client. His business was sued following an incident involving an employee and a customer at the customer’s house. And because my client was a sole proprietor, this meant that he, and not the business itself (as opposed to with a corporation) was sued and had to defend himself. This case went to trial in which a jury awarded the victim $10 million.

My client was wiped out. He lost his house, his savings and his family. In this case, had my client set up a limited liability entity, this disastrous event could have been prevented.

What Is a Limited Liability Entity?

First, what does the word “entity” mean? It refers to an organization which has legal identity separate from its members. It is a real thing, distinguishable and apart from its owners.

A good entity is one that shields and protects your personal assets from business risk. A bad entity is one that provides you no protection whatsoever. To review which ones provide limited liability read my blog, Select the Best Entity for Your Personal Strategy which explains the good, the bad, and the ugly when it comes to setting up your entity.

Note: When you select your entity type, it’s not a one size fits all situation. Refer to an attorney or accountant for which entity best fits your business plan.

How to Achieve Limited Liability

These following seven steps are important to follow to achieve limited liability. Failing to follow these seven steps could make you personally responsible for claims against your business.

1. Form a Limited Liability Entity: Various entities are available and each provides different features and limitations. If you have a business that is not operated as a limited liability entity, your personal assets and all of the assets of the business may be in jeopardy.
2. Use a Reliable Resident Agent: A resident agent is the person who receives service of process on your entity’s behalf. It does not cost a lot to follow this very important corporate formality.
3. Perform Required Annual Filings: Annual reports must be filed and an annual fee paid to your state to achieve limited liability. Just as forming your entity and using a reliable resident agent is crucial to setting up your business, filing your annual returns is a must to maintain limited liability.
4. Prepare or have an Advisor Prepare Minutes of Meetings: Preparing minutes of meetings indicates that you are treating your entity as something distinct from yourself. They are a written record of your entity’s decision. This is something you can easily have someone do for you.
5. Put the World on Notice: One more step to distinguishing you from your entity is by telling the world you are acting as a limited liability entity. On your business cards, brochures, contracts and checks you want to have Inc., LLC or LP displayed so people know they are dealing with an entity and not you personally.
6. Maintain Separate Bank Account: Another step to telling the world that you are acting as a limited liability entity is to distinguish your personal assets from the entity’s assets and maintain separate bank accounts.
7. Have an Advisor Prepare Separate Tax Returns: Limited liability entities are separate tax entities, and require separate entity tax returns. Listing revenue or expenses on your personal tax return the belongs on the entity’s tax return is not a good idea. You should consider hiring a professional accountant to avoid problems.

You can avoid having the corporate veil pierced and protect your personal assets by following these important (but easily achievable) steps.

To learn more about protecting your business against claims, get my book: Start Your Own Corporation: Why The Rich Own Their Own Companies And Everyone Else Works For Them.