Small Business Corporations. Many small businesses are run through corporations. You have heard the radio ads that you must protect your home and banking accounts from business liabilities by running your business though a corporation.
Stock Not Protected. But what protects your shares in your corporation that owns your business? In contrast to a Virginia or Delaware LLC, a court may order the seizure and sale of your corporate shares to pay judgments against you.
Peter Plumber. Peter Plumber has a successful plumbing company (Peter Plumber, Inc.) with 20 employees, ten trucks and $3,000,000 a year in sales. One night he has a terrible auto accident while he was driving home from work. He ends up losing the lawsuit over the accident and a judgment for $5,000,000 is entered against him personally. His auto insurance only pays $500,000 of the judgment. The trial lawyer for the accident victim comes after Peter for the remaining $4,500,000. The trial lawyer obtains a court order for the sale of all the stock Peter owns in Peter Plumber, Inc., in addition to losing most of his assets.
Just Another Asset. Whether in Microsoft® or shares in Peter Plumber, Inc., corporate stock is treated as an asset just like a bank account or real estate and can be sold on the courthouse steps. In my experience, most business owners do not know this.
What to do. To protect your shares in your corporation, here are some of the techniques. Each of them has advantages and disadvantages:
1. Buy Sell. Have a buy sell agreement that mandates the sale of your stock in the event it is taken as a result of a court judgment.
2. Use an LLC. Consider setting up your business as a Limited Liability Company (LLC) in a state where LLC interests are protected. Consider making a corporate tax election for the LLC. More on this later.
3. Convert. If you have a corporation, review with your advisors the feasibility of converting to an LLC. Be aware that the IRS considers such conversions a sale and do not do this if you have to pay a lot of taxes.
4. Segregate Assets. Have all of the assets that you use in the business owned by separate LLCs and rent those assets from these LLCs. For example, Peter Plumbing, Inc. does not own the vehicles or its warehouse. The vehicles are owned by a separate LLC as is the warehouse.
5. Have LLCs own your Shares. If you have a C Corporation that pays corporate taxes, have your shares owned by an LLC that is protected. If you have an S Corporation that pays no corporate taxes, there is a special type of LLC to use. More on this later.