Protecting your assets with an LLC; a legal firewall
June 3, 2016 - Posted by: admin - In category:
As the name would suggest, a limited liability company is designed to limit liability–it is supposed to function as a legal firewall.
There are many purposes for LLCs in today’s world of business, law, tax and accounting work, but these nifty legal entities were originally designed to serve asset protection and liability limiting functions. If all goes according to plan, any legal claims and other liabilities arising from business enterprises of and assets owned by an LLC will be contained within that LLC and will not spill over into assets and enterprise outside of the LLC. Likewise, for the owner(s) of the LLC, there should be no personal liability. If there is a problem with the business owned by the LLC, creditors of such business should not be able to show up at the house of the business owner(s) and start taking personal assets in payment of business claims. That is how it SHOULD and in the best case does work. We will talk about exceptions to this later.
Since I’m not a CPA, I will leave the relevant tax considerations for you to discuss with your accountant. We are talking only of the legal considerations relating to an LLC (a few basics, that is). In truth, there are legal treatises a plenty, each hundreds and hundreds of pages long, which deal with the many legal nuances of a limited liability company (LLC for short). However, just as I don’t need to know how to replace the engine or transmission of my car to use my car properly or benefit from the safety features of my car, you do NOT need to understand all of the many legal points and doctrines relating to an LLC. What then should you understand, as an average, non-lawyer person who has one or more business interests and therefore has use of one or more LLC entities?
First and foremost, you should understand that an LLC is intended to serve a “business purpose” and in order to properly form an LLC under Utah law and the laws of most other states, you must report this business purpose to the State when you are forming your entity. Further, the legal protections you are seeking to obtain through your LLC are most likely to be contingent (should problems arise later) upon you having a legitimate business purpose in the formation and operation of your LLC. For this reason, among many others, the common but misplaced practice of forming and LLC to own a personal residence is almost always a bad idea (not to mention a waste of money). To to clarify this last point, I am not talking about having an LLC own a rental property (where an LLC is a legal necessity in most instances), rather, I am talking about having an LLC own your own personal residence, with the idea that somehow that LLC which owns your personal residence will serve an asset protection function for you should you ever encounter legal problems. Don’t fall for that scam.
Formation of the LLC. A limited liability company is a creature of state law, similar to a corporation. The law of the state in which you are forming your LLC governs the requirements for formation and all other aspects of your legal entity, now and in the future. So if you are forming an LLC in Utah, you need to understand and comply with Utah law requirements for your LLC. Seems pretty straightforward, right? But how do you go about forming an LLC, is this something you can do yourself or who should do this work?
Let’s pause here to remember a very important truth about the difference between “CAN” and “SHOULD”. In other words, just because you CAN do something, that does NOT mean that you necessarily SHOULD do so. In this context, you certainly can form your own LLC. This can be done online through the State of Utah website or you can obtain a paper form and send that form to the State of Utah, along with a check for the applicable filing/formation fees. So, in concept, the actual formation of the new entity is rather simple in many respects. However, part of the problem with folks who undertake this as a “do it yourself” matter, rather than retaining professional help, is that very often the formation is done incorrectly and/or nothing more is ever done after the formation. Am I saying that there is more to be done after formation of the LLC? Yes, of course. Much more.
We will pick up here next time and talk about potential problems that can arise at the formation stage and afterwards.