LLC Precautions

by Rob Jennings J.D.

The limited liability company, or LLC, is a popular business structure because it is relatively simple to create, and has certain tax benefits and limited liability for members. However, while an LLC is usually easier to create and operate than other corporate forms, members should take precautions to avoid making mistakes that could result in the loss of all those benefits.

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Corporate Organization

The procedural requirements for setting up an LLC and maintaining one year after year vary from state to state, as LLCs are creatures of state law. States have specific requirements as to what forms need to be filed, when they need to be filed and what needs to be on them. Taking shortcuts with the filings that create and maintain your LLC could result in the administrative dissolution of the company or the loss of tax benefits and limited liability.

Operating Agreement

Your fellow LLC members may be part of your family or be your closest friends. However, this can become meaningless in the event of a legal dispute over the operation of a profitable business. An operating agreement spells out the agreement of the members as to the critical factors in the LLC's operation, such as distributing profits, admitting and removing members, and the disposition of capital contributions. Though many states do not require an operating agreement, starting out with a well-drafted and easily understood operating agreement can prevent expensive and painful rifts later in the company's life.

Articles of Organization

An LLC's articles of organization, the equivalent of a corporate charter, contain several key pieces of information about the company. One important section deals with the purpose for which the LLC is being formed. Although you may have formed your LLC to conduct a specific kind of business, most people state the company's purpose in broad terms like "to engage in any lawful activity." This not only reduces the need to amend the articles as the business grows and changes, but also reduces the danger of the corporate veil being "pierced" in a lawsuit. In other words, including more general terms in your articles of organization may reduce the likelihood of your LLC losing its limited liability status and leaving you personally vulnerable to lawsuits.

Separation Between Personal and Company Affairs

While a plaintiff seeking to pierce the corporate veil in a civil lawsuit involving the company may take many routes of attack to get to your personal assets, one easy way to lose limited liability is to blur the lines between the company and members. A court that sees a member treating the company as his personal ATM may rule that the LLC is a fiction and that the corporate veil should be pierced. Maintaining a wall of separation between personal and company bank accounts, loans, credit cards and other financial affairs can help preserve the LLC as a separate and valid legal entity.