What Are Owners Liable for in an LLC?

By Lisa Magloff

One of the benefits of a limited liability company (LLC) is that owners, called members in an LLC, generally cannot be held personally liable for any debts and legal judgments against the company. Therefore, if the business goes into debt, the creditor cannot take members' personal funds. However, in certain circumstances, LLC members can be held personally liable for the actions of the LLC or its members. In legal terminology, this is called “piercing the corporate veil.”

Ordinary Liability

Under ordinary circumstances, only LLC assets are used to pay off business debts, and the members of the LLC will only lose money they have invested in the LLC. Members of an LLC can also be held liable for any debts of the LLC that they have personally guaranteed. Members can also be held personally liable for court judgments against the LLC if the member has personally and directly injured someone or caused financial loss in the course of business, or has knowingly done something illegal or reckless.

Misuse of Funds

Courts will also sometimes order members to be held personally liable in some other circumstances. One of these is the misuse of company funds, which occurs when a member treats the assets of the LLC as if they were his own. Examples include a member using company funds to buy a house for himself, or a member placing company funds in his own bank account and not keeping adequate records of which funds belonged to the LLC and which funds belonged to himself. Misuse of funds can also include a member paying himself an amount of money that he knows will bankrupt the company.

Ready to start your LLC? Start an LLC Online Now

Liability for Fraud

Courts may hold LLC members personally liable for losses from fraud the members have committed, which includes making fraudulent representations about the business, such as promising the LLC will pay a bill when the member knows this is impossible, or assuring a debtor that the company has financial backing from another source when it does not. Fraud can also include members continuing to operate an LLC while knowing that it is undercapitalized -- knowing that they do not have sufficient funds to cover their obligations.

Failure to Maintain Records

Members of an LLC can also be held personally liable for failing to maintain adequate records. Although LLCs are not required to keep the same kinds of detailed records as corporations, members may still be held liable for for “disregard of formalities.” In an LLC, this behavior may include failure to keep detailed financial records, failure to record minutes of major decisions and failure to follow the terms of the operating agreement.

Proving Liability

Courts usually require three elements to be present before they will allow the veil to be pierced and a member to be held liable for the financial losses of an LLC. First, the person bringing the lawsuit (the plaintiff) must show that the LLC was controlled and dominated so completely by the member in question that the LLC was a mere instrument of that person and indistinct from her. The plaintiff must then show that a breach of duty occurred -- for example, that the member committed fraud or failed to keep adequate records. The final element is that the control and the breach of duty must have caused injury or loss to the plaintiff.

Ready to start your LLC? Start an LLC Online Now
What Financial Liability Does Each Member of an LLC Accrue?

References

Related articles

What's an LLC?

An LLC, or limited liability company, is a flexible form of business entity that provides its owners with the safeguard of limited liability. An LLC can have any number of owners, known as members, so the entity is suitable for both sole proprietors and larger businesses. Although each state has its own laws for LLCs that are registered within its jurisdiction, the general rules regarding formation, limited liability, taxation and operation of the LLC are broadly similar.

How Can a Person That Owns a Corporation Get Sued for Fraud?

One of the biggest advantages of a corporation is that this business structure protects controlling shareholders from personal liability for the debts and liabilities of the business. This protection does not mean that persons involved with the corporation can undertake fraudulent activities and enjoy immunity under corporate liability protection. Officers, directors and controlling shareholders of the corporation owe the other shareholders a fiduciary duty. Under the legal theory of “piercing the veil,” a controlling shareholder can be held personally responsible for fraudulent actions by the corporation initiated by that individual.

Who Does a LLC Have to Show Financials To?

Keeping accurate accounting records is part of your responsibility as an owner of a limited liability company. Using the data from your company's books, you can generate financial reports to gauge the health of the business. Most entrepreneurs wouldn't want competitors or other outsiders to have access to this proprietary information about their businesses; however, certain parties have a right to see your LLC's books and related financial records upon request.

LLCs, Corporations, Patents, Attorney Help

Related articles

Does a Company With an LLC Belong to the Business Owner?

A limited liability company, or LLC, is a business entity organized under state law. LLC owners are called members, and ...

Can an LLC Have Only 1 Member?

A limited liability company, or LLC, is a type of business structure that allows owners -- called members -- to avoid ...

How to Understand an LLC

Limited liability companies combine the advantages and disadvantages of corporations and private partnerships. ...

Is an LLC Required to Have a Separate Bank Account?

Under most circumstances, an owner of an enterprise conducting business as a limited liability company (LLC) is ...

Browse by category
Ready to Begin? GET STARTED