The Benefits of Business Entities

Entrepreneurs often describe their businesses as their children into which they pour their hopes, dreams, time, effort, money, and, invariably, their hearts.  While there is no doubt that deciding to start or acquire a business requires a leap of faith, it does not have to be a blind leap of faith.  Most people view attorneys as problem solvers and a last resort when all else fails.  Depending on whom you ask, you may hear that attorneys create problems.  In truth, if you involve an attorney in the inception of your business plan, he or she can help identify and avoid many problems, and guide you through other unavoidable issues as they arise.  Given the financial and emotional investment required to begin a business, it is worth including an attorney, together with your accountant, banker, and others, as a part of your business team.  Below are some of the answers to questions that we at CowanGates PC commonly receive from new or perspective business owners. 

  1. Do I really need to set up a corporation or limited liability company if I'm going to be the only person involved?  Yes.  Think of a business entity as the cheapest insurance you can buy—a way to separate your eggs into separate baskets. Corporations and other business entities are designed to separate the ownership of a business, from the day to day operation of the business and the liabilities that come with the operation of that business.  In theory, the owner of stock in a corporation or of an interest in an LLC can only lose the amount of money they have personally invested in the business.  Creditors of a properly established and properly run business entity can only look to the assets owned by the entity to satisfy their debts.  By setting up and operating your business as a corporation or other business entity, you can insulate you, the owner, and your personal assets, from most of the business's liabilities.
  2. Why do you say that using a corporation or other business entity insulates me from "most," but not all, business liabilities?  From a practical standpoint, some parties you will deal with will require you to personally guaranty your business's obligations.  The most common examples are banks, other lenders, and landlords, all of whom typically require the owner(s) of the business entity to guaranty the obligations of the business so that if the business folds, they can look to you for payment in addition to or beyond the business's assets.
  3. The bank and my landlord would be my primary creditors.  If I'm not able to avoid personal liability for those obligations, what are the benefits of setting up a business entity?  Even if you cannot avoid personally guarantying certain obligations (which even then an attorney may be able to help you minimize your level of exposure), business entities can protect you from the devil you don't know.  Almost all businesses place goods or services into the stream of commerce.  If those goods or services injure another person or company, physically or financially, a properly established and managed business entity would limit the business's exposure to the assets of the business and any insurance the covers the business.
  4. You say that creating a business entity is cheap insurance, so do I need additional insurance?  Yes. The business entity is the ultimate failsafe to protect the business owner from personal exposure; however, from a practical standpoint, the sustained success of your business will be vital to your livelihood.  Given the size of your financial and emotional investment, it is not always feasible to allow creditors or a successful plaintiff in a lawsuit to take the assets of the business and you, the owner, walk away.  You should consult your attorney and insurance agent to determine the type(s) and amounts of insurance you should have to protect the business assets based on type of goods and services your business provides.
  5. I'm trying to get my business started and don't have a bunch of extra money to pay an attorney to set up the business.  Are there websites where I can pay a nominal fee to set up my business entity?  If so, then why do I need to spend extra money for an attorney?  Yes, there are websites that will provide forms and help you complete those forms; however, such websites cannot provide legal advice.  There are also websites that will allow you to diagnose medical conditions, but most people still visit the doctor for treatment.  As most business owners will testify, there is a lot more to getting a business up and running than just filing the paperwork.  Here are just a handful of the questions that CowanGates answers for our clients that a website cannot.

    - Should I buy all of the stock in another company or should I set up my own business and purchase the other company's assets instead?
    - Now that I have established my business entity, how do I use it? 

    - What type of business entity should I create – a corporation, limited liability company, etc.? 

    - How should my business be set up for tax purposes? Should I elect to have the business treated as a subchapter S corporation? 

    - How do I sign on behalf of the business to avoid becoming personally liable? 

    - What do I need to do in order to prevent creditors from looking through the business entity to the individual owners because the business entity was not properly managed?

In short, the real value an attorney provides is his or her legal advice and experience working with other fledgling businesses.  Getting that legal advice up front can help prevent duplicative work and avoid more expensive problems that can arise down the road.  As one of my law professors used to say about the reluctance to pay for an attorney—"you can pay me now, or pay me a lot more later."