A corporation is a type of business structure that is created and regulated by state law. It is defined as a legal entity separate from its owners (i.e., its shareholders), meaning that only the corporation can be held liable for corporate obligations, such as maintaining certain business records.
Corporations are classified according to their tax structure, purpose, number of shareholders, and amount of stock to be issued.
According to tax laws, the two main categories of corporations are C Corporations and S Corporations.
Other common forms of corporations include Non-Profit, Business, Professional, Foreign, and Public or Private Corporations.
Why Choose a Corporation?
Corporations offer several benefits to their owners, such as limited liability, perpetual existence, and certain constitutional protections.
Limited liability means that shareholders are generally not personally responsible for the corporation’s debts or losses, and the corporation can survive changes in ownership, ensuring its continuous existence.
Additionally, corporations are considered “people” under the law, so they are entitled to certain constitutional protections.
How Do You Form a Corporation?
To form a corporation, you must comply with state corporate laws, usually based on the Revised Model Business Corporation Act (RMBCA). The process involves filing “articles of incorporation” with the Secretary of State and agreeing on factors such as the corporation’s name, authorized shares, shareholders’ contributions, the type of corporation, and its management. Each state may have additional requirements for forming a corporation.
How is a Corporation Controlled?
Shareholders elect a board of directors to make important corporate decisions, and the board then elects the officers responsible for managing day-to-day operations.
Shareholders with majority stakes control the corporation more due to their stronger voting powers.
How is a Corporation Held Liable for Its Debts?
Individual shareholders of a corporation enjoy limited liability, which is one of the primary advantages of incorporating a business. This protection means that shareholders’ personal assets, such as their homes, vehicles, and personal savings, are generally not at risk if the corporation faces financial difficulties, legal issues, or other liabilities. Instead, only the corporation’s assets are used to cover its debts and obligations.
Proper establishment and management of a corporation are crucial to maintaining this limited liability protection.
To ensure a corporation is properly established, owners must follow specific steps, including filing the articles of incorporation, obtaining any required permits or licenses, and adhering to state and federal regulations.
Additionally, owners must ensure that their corporation is adequately capitalized, meaning that it has sufficient funding to cover its obligations and operate successfully.
Proper management of a corporation involves maintaining a clear separation between the corporation and its shareholders and adhering to corporate formalities. This includes holding regular meetings for the board of directors and shareholders, keeping accurate and up-to-date records of corporate decisions, and ensuring that corporate finances are separate from the personal finances of shareholders.
Failing to follow these formalities may expose shareholders to personal liability if the corporate veil is pierced, as previously discussed.
Are There Any Exceptions to a Corporation’s Limited Liability?
In certain situations, limited liability may not protect an owner’s personal assets, and they may be held personally liable. This can occur when an owner directly causes injury to another person, fails to deposit withheld employee taxes, engages in fraudulent or illegal activity, personally secures a business debt, or treats the corporation as an extension of their personal affairs.
Example
Suppose John owns and operates a construction company called “John’s Construction, Inc.”
He has legally registered the company as a corporation, which provides him with limited liability protection. However, John fails to maintain the appropriate separation between his personal and corporate finances.
He routinely uses the corporate bank account to pay for his personal expenses, such as vacations and dining out. Additionally, he does not hold regular board meetings, and the corporation has not been adequately capitalized.
One day, an unfortunate accident happens at one of John’s construction sites, severely injuring a passerby named Sarah.
Sarah decides to sue John’s Construction, Inc. for damages. During the lawsuit, Sarah’s attorney discovers the financial irregularities and the lack of corporate formalities. As a result, Sarah’s attorney argues that the court should “pierce the corporate veil” and hold John personally liable for the damages.
The court agrees that John has failed to treat the corporation as a separate legal entity, as evidenced by his commingling of personal and corporate finances and failure to follow corporate formalities. The court rules that John’s Construction, Inc. is essentially an alter ego of John himself rather than a separate legal entity.
Consequently, the court pierces the corporate veil and holds John personally liable for the damages incurred by Sarah. This means that John’s personal assets, such as his house, car, and personal bank accounts, can be used to satisfy the judgment against him.
In this example, John’s failure to maintain the appropriate separation between his personal affairs and the corporation’s affairs and his disregard for corporate formalities resulted in the loss of limited liability protection. This allowed the court to hold him personally liable for the damages caused by his corporation.
Business owners need to follow corporate formalities and keep their personal and business finances separate to avoid such outcomes, thus preserving the limited liability protection provided by the corporate structure.
What is “Double Taxation?”
Double taxation refers to the tax treatment of corporations, whereby the corporation pays taxes on its profits, and shareholders also pay individual taxes on the dividends they receive. This can be a disadvantage of forming a corporation, as shareholders cannot deduct corporate losses.
Do I Need an Attorney for Help with Forming a Corporation?
Although having an attorney when forming a corporation is not mandatory, it is highly recommended. Selecting the right business structure can significantly impact your business decisions and profitability.
An experienced corporate lawyer can provide information on various business structures, predict what may work best for your corporation, and assist with filing the necessary documents. Additionally, a lawyer can guide you through the process if you need to change your corporation type.
LegalMatch is an online platform that connects individuals and businesses with attorneys in various legal areas, including corporate law. If you seek legal assistance with forming a corporation, LegalMatch can help you find an attorney with experience in this area.
To use LegalMatch, complete a brief online form describing your legal issue. Then, LegalMatch will match you with qualified attorneys in your area who are available to take on your case. You can review each attorney’s profile and past client reviews to help you decide who to hire.
Once you have selected an attorney, you can schedule a consultation to discuss your legal needs and get advice on forming your corporation. Your attorney can assist with tasks such as drafting and filing the necessary documents, obtaining necessary licenses and permits, and providing ongoing legal counsel to ensure compliance with state and federal laws.
Use LegalMatch to help find a qualified attorney to guide you through forming a corporation and help ensure that your business is set up for success.
