I frequently get calls from entrepreneurs and existing business owners looking to establish a business entity, such as an LLC or corporation. Their chief concern? Limiting liability for their new venture. While formalizing the business organization is part of the process for most new business ideas, it’s not necessarily the first place to start when looking to “limit liability.”
Creating a business entity is of course important and a priority for any business set-up. I am a business attorney, after all. Set-ups, contracts, deals, and operations are all offerings of my practice. But it’s important to first understand one’s actual liability exposure before taking actions and making investments to limit it. Some tools and techniques may be overkill or completely ineffective. Or, depending on the capital available for start-up and operating costs, they may fall lower on the priority list. To make educated decisions, a little homework is in order.
First of all, what kind of liability protection does a LLC or corporation provide for a business owner? If properly managed, it ideally protects the principal’s personal assets from attachment by a creditor of the business. Let’s imagine a business is sued, the suit does not settle prior to trial, and the business loses at trial. A judgment is issued in favor of the plaintiff for an amount greater than the assets available in the business. If the judgement also exceeds available insurance coverage, then the judgment holder looks to the principal to satisfy the debt. That’s where the business entity, if managed correctly, should operate to prevent the creditor from succeeding in this attempt. Or, as we say in business law, to prevent the creditor from “piercing the corporate veil.”
That’s all well and good, but from the time of being served by the sheriff, to the time the parties are dealing with debt satisfaction issues, the principal’s insurance company is funding most of the defense. Litigation is an expensive, timely process. The quality of insurance coverage matters, both in terms of the litigation costs and in ultimate settlement possibilities. Litigation is always disruptive, but just how much so depends on the principal’s understanding of the actual risks and actions taken to mitigate losses.
Understanding exposure and tolerance to risk, in both the business and personal arenas, is important for any business owner, at whatever stage of growth and operations. For those who are light on funding or operating on a limited budget, it’s even more critical. That’s why, as part of the diligence process of any business venture, I highly recommend that all business owners investigate and understand existing personal and business liability coverages. It’s only after understanding your own coverage that you’ll be able to properly assess your levels of tolerance.
Ask your insurance agent for a policy review to understand what’s covered and excluded. Here are some other questions you may want to consider:
1. What are the personal liability limits on my current homeowners policy? Are there any exclusions, and if so, what are they? Is there anything I should know to be sure I don’t accidentally void the policy or coverage? Are there any actions I should be sure to take or avoid to prevent voiding policy?
2. Do I have umbrella insurance? If so, what are the policy limits? Are there any exclusions, and if so, what are they? Is there anything I should know to be sure I don’t accidentally void the policy or coverage? Are there any actions I should be sure to take or avoid to prevent voiding policy?
3. Do I have any other insurance policies with a personal liability coverage component? Are there any exclusions? If so, what are they? Is there anything I should know to be sure I don’t accidentally void the policy or coverage? Are there any actions I should be sure to take or avoid to prevent voiding policy?
4. Do these policies cover claims stemming from professionally related civil suits? Would these policies cover liability for professional liability?
5. What are your commercial liability coverage policy limits? Are there any exclusions? If so, what are they? Is there anything I should know to be sure I don’t accidentally void the policy or coverage? Are there any actions I should be sure to take or avoid to prevent voiding policy?
You’ll also want to ask that same set of questions for any business-related policies.
Once you’ve gone through your policies, ask if there are any holes in these coverages — areas exposed that are not covered by any of the policies. Then assess your level of comfort with those holes. Are there any riders available to close any gaps? Are there any prerequisites to a rider? Should you increase limits on any policies?
Going through this exercise with your advisors prior to making an investment or choosing a particular course of action should provide a better understanding of your actual risk and exposure to liability. With that information, you’ll be able to make smarter decisions about how to set up your business, putting your budget and resources to their best use.
If you’re setting up a new business, you’ll need a business lawyer in Atlanta to help you do it right from the start. Contact Stanton Law attorney Lauren Marlow at 404-881-1288 for a consultation.