There are many issues that can lead to the piercing of your LLC’s protective shell, which may allow creditors access to your personal assets and conversely expose your LLC’s assets to your personal liabilities. The Rules are complex. NOT COMPLYING with them can cost YOU thousands of dollars.
Concept 1: LLCs do not automatically protect assets. Having approved Articles of Organization from the Secretary of State is meaningless by itself in protecting assets. In order to get asset protection benefits, additional compliance actions must take place after receiving the approved Articles. Some actions take place during the First Meetings of LLCs; others are required for on-going maintenance of LLCs.
Concept 2: LLCs MUST be properly formed to have legal standing. LLCs are among the best legal structures for limiting liability for their members, BUT only if they are properly formed and maintained. During the formation process and First Meetings certain actions must occur or an LLC may lack legal standing. (See our article: “LLCs-
First Meetings and Legal Standing”).
Concept 3: LLCs and legal standing are determined under state law. LLCs and other formal entities are governed under state law, both the state laws of its formation AND every state in which it does business. For most it’s the same state. However, if the LLC’s real estate holdings are in a different state from the state you reside in, then the laws of both states must be followed.
Concept 4: California LLCs require operating agreements for legal standing. When CA LLCs fail to adopt operating agreements, it may cause them to lack legal standing, which may allow a piercing of the LLCs’ veil of protection and expose their members’ homes and personal assets to LLC lawsuits, liens and creditors. Operating Agreements are a legal guide for the courts, if the documents don’t exist, it’s difficult to prove legal standing or the separation required between LLCs and their owners.
Concept 5: No legal standing means no legal rights for LLCs. Without legal standing LLCs can be barred from defending themselves in court or from bringing suit for damages against another. This may result in LLC cases being dismissed or the legal action against LLCs reverting to suits against individual members, exposing personal assets to judgements resulting from actions of LLCs or their members.
Concept 6: Lack of legal standing may void contracts. Contracts require that the parties have legal standing. When LLCs lack legal standing, their contracts may be deemed invalid by the courts; barring LLCs from enforcing or defending them or in collecting damages, thereby dismissing the other party’s obligation to the LLCs. Even when legal status is reinstated, LLCs can’t enforce their contracts until they apply for and receive a Certificate of Relief from Contract Voidability.
Concept 7: California LLCs may lose legal standing for the following:
- If suspended or forfeited by the Secretary of State or Franchise Tax Board.
- For failure to adopt operating agreements.
- Failure to file annual Statements of Information.
- Failure to meet tax requirements (e.g. file returns, pay taxes, penalties, interest).
- Out-of-state LLCs for failure to register to do business in California.
- Failure to reimburse the Victims of Corporate Fraud Compensation Fund for paid claims and other State laws.
Concept 8: Single-member LLCs may want to convert to multimember to avoid being disregarded as formal entities (treated as sole props by the IRS) and to provide the asset protection benefits afforded multimember LLCs. Most states don’t protect singe-member LLCS from the creditors of their members, because their members fail to prove the necessary separation between themselves and their LLCs.
Concept 9: Compliance MUST be maintained for LLCs to provide asset protection
LLCs provide great asset protection, but only when they maintain on-going compliance, such as having their assets properly titled in the names of the LLCs, registering to do business in a new state, filing tax returns, paying taxes, filing updated Statements of Information, holding annual and special meetings and recording decisions made by management in the minutes of the meetings.
Concept 10: Separation MUST be demonstrated and alter ego actions avoided. LLCs must be respected as separate from their members and managers. Certain decisions made by management must be recorded in their minutes, other formalities maintained, required records retained and alter ego actions must be avoided or else the protective shield between LLCs and members can be breeched.
When LLCs comply fully with the law, attorneys have a difficult time piercing their protective shield when trying to get access to their members’ personal assets. However, LLCs don’t protect those who have no regard for the law.