Perhaps the primary advantage of forming an Arizona LLC over another type of company is that an LLC can protect the owners from personal liability for the company’s financial obligations. This helps ensure that, if the LLC is sued or incurs a loss, the owners’ personal assets will not be exposed.
However, personal assets can be at risk if the owners do or fail to do certain things. Some of these actions can prompt a court to determine that the LLC is not truly separate from its owners (in other words, is just their “alter ego”). Others can result in personal liability for additional reasons. Below, we explain some of these errors and how to avoid them.
Failing to Adhere to Corporate Formalities
When operating your LLC, be sure to follow the corporate formalities outlined in the operating agreement. These include rules regarding management structure, how records are kept, when meetings are scheduled, etc. The LLC should hold board meetings regularly, take minutes at those meetings, adopt and adhere to bylaws, and otherwise follow standard practices and procedures.
Co-Mingling Assets
The LLC’s funds should never be co-mingled with the members’ personal assets.
Using the LLC’s Funds for Personal Expenses
Like co-mingling assets, using the LLCs funds for personal expenses can indicate to a court that the company is merely an extension of the owner(s) and not a separate entity.
Grossly Undercapitalizing the LLC
Under Arizona law, an LLC must be adequately capitalized throughout its life (starting at formation) so that it can meet its financial obligations. Gross undercapitalization can result in members facing personal liability for the company’s financial obligations.
Failing to Document All Business Activities
LLC members should make sure to document all business actions. These include, but are not limited to, engaging in required corporate formalities like board meetings, establishing a separate bank account for the company, maintaining adequate capital, etc.
Failing to Make the LLC’s Status Known to Others
Business partners should be informed that the LLC exists. This can be accomplished in a number of ways, such as by creating business cards with the company name, making purchases and paying invoices using a company credit card or business checking account, and invoicing clients and signing contracts in the company name.
Personally Guaranteeing Contracts
Members and managers should always enter into contracts in the LLC’s name. For example, they should only sign financial agreements or other contracts as agents of the LLC, naming the LLC as the principal in the relevant documents.
Any member who personally guarantees a debt or other obligation of the LLC will be personally responsible for it. For this reason, avoid contracting on behalf of the LLC before it is officially formed. In addition, review all loan documents to ensure they do not make members personally liable for defaults.
Allowing LLC Agents to Act on Behalf of Members
Along the same lines, always ensure that employees and other company agents act as representatives of the LLC rather than of the members themselves when conducting official company business.
Participating in Tortious or Negligent Conduct
If the LLC commits a business tort and one or more members or other agents personally directs or participates in that conduct, they may not be shielded from liability for resulting damages. Likewise, LLC members and agents are not protected from liability for their own negligent or wrongful acts that injure someone else.
Damaging Others’ Contractual or Business Relationships
If an LLC member makes an error related to company business while acting in their own capacity, such as writing a bad personal check to purchase equipment under a company contract, that manager may be personally liable for that action.
Failing to Account for Environmental Cleanup Costs
The Comprehensive Environmental Response, Compensation and Liability Act (CERCLA) imposes liability for environmental cleanup costs on past and present owners of property contaminated by hazardous waste. LLC members can be held personally liable for these costs under the statute without proof of negligence or intent if those members had control over the disposal of hazardous materials.
Paying Distributions Improperly
Be sure to pay members distributions in accordance with the operating agreement. However, do not pay distributions if they will result in the company having insufficient funds to cover its financial liabilities.
Engaging in Irregular or Inconsistent Accounting Practices
It is important to regularly keep complete and accurate accounting records for the LLC.
Using the LLC to Commit Fraud or Some Other Illegality
If it is determined that the LLC is just a sham whose primary purpose is to commit fraud or engage in some other illegal activity, the owners can be held personally liable.
Contact Counxel Legal Firm
If you would like to talk to an attorney about how to avoid personal liability and protect your personal assets as an LLC owner, contact us at (480) 744-6621 or at request@counxel.com. Don’t forget to check out the good things that others are saying about the services they received from Timothy Coons on Google.
This article is intended for informational purposes only and does not constitute legal advice for your specific situation. Use of and access to this article does not create an attorney-client relationship between you and Counxel Legal Firm. Please contact request@counxel.com or (480) 744-6621 to request specific information for your situation.
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