American law contains a concept known as “legal fiction.” For reasons of equity or otherwise, the law sometimes pretends that something exists when it does not, or that something does not exist when it does.
For example, a contract contains stringent written notice requirements for extras and time extensions. A failure to send written notice waives the claim. However, the owner verbally orders changes and verbally reschedules the work, causing delays. Although the contractor did not send written notices, the court may find that the owner’s actions should stop (bar) it from raising the “notice” defense. So, the law pretends that the notice clause does not exist.
In another circumstance, the law pretends something exists when it does not. The corporate entity is a good example. In corporations law, the corporation (which we know is merely a grouping of papers) is a “being,” an entity independent of its officers, directors, and shareholders. It is not really a person (it has no human traits), but it can do human things such as own property and enter into contracts.
The advantages are obvious. Where the corporation creates a liability, from breach of contract to personal injury, the corporate being is liable, as if it were a person who did the misdeed. The officers who actually made the decisions that led to the harm are not liable for the damages done.
Of course, this is an oversimplified view of the law, but it is generally true that the “corporate shield” (or “corporate veil”) does protect the principals of the corporation.
Keeping the “shield” in place
Corporations law is not federal. Therefore, it differs from state to state. For historical reasons, many companies are incorporated in Delaware. The Delaware code is one of the oldest, and the Delaware commercial courts are among the finest and most experienced in the United States in corporate law.
No matter which state has your incorporation papers, certain formalities are required. Board of directors’ meeting minutes, annual state filings, taxes, and other paperwork burdens are necessary to keep the corporate shield in place.
These tasks are usually not onerous, but they are critical to the corporation’s existence. Similarly, you will need to register your company as a “foreign” corporation in all other states where you are working.
Piercing the shield
The original analogies, “piercing the corporate shield” and “lifting the corporate veil,” have been bastardized into “piercing the corporate veil.” This is an odd concept. In any event, it is a battle-sounding attack you do not want.
Question: How can you lose the legal protection of the corporate entity?
Answer: In a thousand ways.
Particularly for small- to medium-sized electrical contractors, there is a degree of fiscal sloppiness that is endemic. For example:
• Using the company’s funds to pay your home mortgage payment.
• Using the corporate credit card for personal purchases.
• Charging your vacation cruise to the company’s line of credit.
• Putting your spouse on the payroll although he or she does no work for the company.
• Having your company buy a restaurant or condominium, or invest in some other unrelated venture.
Other mistakes include:
• Commingling personal and corporate bank accounts.
• Signing contracts without noting your corporate title under your signature.
• Using shortened or other unregistered names for your company on checks or on contracts.
• Not using company stationery for correspondence or invoices.
Can any one of these activities destroy your corporate protection? Perhaps not. But even if they do not, someone (the owner, a supplier) has in hand a basis for claiming that you are responsible for money losses, personal injury, etc. In that case, you may well find yourself in court as a defendant along with your company. Even if you eventually win at trial, or on appeal, you have wasted your time and money on an avoidable fight.
A friend once told me that the degrees of intelligence in this world can be listed from the most widespread (artificial) to the rarest (common sense). Here is some rare intelligence.
• Have your complete corporate name on all documents.
• When you sign any papers, list your corporate title.
• Never mix corporate and personal bank accounts, whether for debts or receivables.
• Try not to mix personal and corporate credit cards for payments (meals, lodging, supplies, etc.).
• If you want to start a new venture, consider forming a new corporation.
• Maintain all corporate registrations and licenses, even in states where you have not done business for some time.
• Avoid promises such as, “I will personally take care of this problem.”
• Do not pledge corporate assets to secure personal debts.
• Observe all corporate formalities, such as keeping minutes of shareholder meetings, corporate resolutions, etc.
• Be cautious in transferring corporate assets for the purpose of avoiding liabilities you expect might arise from pending or threatened litigation against your company.
American corporations law can be ornate and complicated, but the protections afforded by these laws can be maintained simply through careful paperwork and sensible financial controls. The downside of not following the rules is that you can become personally liable for actions of your company. When in doubt about what to do, consult an attorney. EC