An S corporation’s owners have limited liability protection. This means that most business debts are not personally responsible for the owners. If a company can’t pay its payments, its creditors can only go after the company’s assets, not the individual owners’ homes, vehicles, or bank accounts.
The owners are only financially liable for the amount they put into the company. For example, if an owner has put $10,000 into the company, she is only responsible for that amount. Creditors cannot go after an individual’s assets to recover the remaining $5,000 if the corporation has incurred debts of $15,000 or more.
What happens to debt when you close an S Corp?
State law generally requires S corporations to notify all creditors of their dissolution. Officers are in charge of liquidating company assets when the firm dissolves. The proceeds of the sale are then used to any outstanding debts. After all debts have been paid, the business’s owners or shareholders may claim and divide the remaining assets. Each state establishes a deadline for collecting outstanding debts, whether they are owed through an oral or written contract, or are owed as a result of loans or revolving credit accounts.
Who is liable in an S corporation?
- Liability protection is limited. LLC and corporation owners are not individually liable for the debts and liabilities of their companies. Instead, as the business’s owner, the LLC or S corp is accountable for the company’s obligations and liabilities.
- Entities that are distinct. Both are distinct legal entities formed as a result of a state filing. They are, however, created and controlled under quite distinct state business entity statutes.
- Taxation on income that is passed through to the next generation. Both are taxed as pass-through entities. (However, the owners of an LLC can elect not to be taxed as a pass-through entity.) Pass-through taxation means that no income taxes are paid at the corporate level. Profit or loss from the business is passed through to the owners’ personal tax filings. Any applicable tax is recorded and paid on an individual basis.
- State compliance obligations are ongoing. Both must comply with state corporation and LLC statutes, which include appointing and maintaining a registered agent, filing annual reports and fees, notifying the state of certain changes such as a change of name, registered agent, or entity type, and qualifying to do business in states other than the formation state.
Who is liable for the debt of a corporation?
Individual shareholders consider themselves to be “owners” of the company even after it has been incorporated.
They are, in fact, stockholders in the corporation that owns the firm.
When considering bankruptcy, it’s critical to understand which of the corporation’s debts, if any, the shareholders may be personally liable for.
Individuals who possess shares in a corporation are not accountable for the debts of the corporation.
The shareholders, on the other hand, may become liable for the corporation’s debts either by consent or by operation of law.
Liability by agreement
Guaranteeing the debt is the most typical technique for a shareholder to become accountable for the corporation’s debts.
That guarantee is a contract that holds the guarantor personally liable for the obligation to the corporation’s creditor.
Occasionally, this obligation arises as a result of a shareholder signing a contract or lease for the corporation in his personal name rather than as an official or employee of the organization.
Signing as a witness is prohibited by state law “John Shareholder” could expose John to personal liability.
Signing a paper for a corporation is the proper way to complete it “Smallcorp, Inc. President, John Shareholder”
The responsibility of a guarantor or another business or individual who is liable for the bankrupt corporation’s debts is not discharged by the corporation’s bankruptcy filing.
A corporate bankruptcy does not prevent legal action against people who are liable.
Trade creditors
Creditors may “pierce the corporate veil” to hold shareholders liable if they have failed to comply with corporate formalities such as corporate meetings and necessary filings, or, more commonly, if they have ignored the corporation’s legal separateness and treated it as an extension of themselves.
This can happen if the shareholders mix their money with the corporation’s or if they designate themselves as the company’s owner, implying that the company is a sole proprietorship.
Governmental entities
Individuals can also be held liable for the corporation’s debts if state or federal law holds the shareholders liable for employment taxes, sales taxes, or uninsured worker’s compensation claims.
Planning where liability is shared
When a small business corporation collapses, the shareholders must analyze the corporation’s debts and history to see if they are liable for the debts.
It may be necessary to ensure that the corporation pays those obligations for which the individuals may be accountable first, before paying other corporate debts.
To comprehend the implementation of bankruptcy preference statutes, seek qualified legal guidance.
Can I be sued personally if I have a corporation?
Many small business owners assume that incorporating will protect their personal assets in the event of a lawsuit. Unfortunately, incorporating your small business when you are the owner and one of the key employees (or the sole employee) typically does not provide much of a legal shield. This is why:
Even though you may not be personally liable for the business’s debts as a shareholder (because the corporation is a separate “person”), there is nothing to prohibit someone from suing you personally for actions you took. Consider the case where you directly produced an ad campaign for your company that targeted a competitor. The competition considers the campaign to be deceptive and hostile, and decides to sue. They may file a lawsuit against your company as well as you, the ad’s developer. While you would not be responsible for any settlement the corporation must pay as a result of the lawsuit, your personal assets could be seized to pay off any judgment the competitor obtained in its case against you.
Furthermore, even if you were not officially liable for the organization’s obligations, if you controlled a small corporation, you would almost certainly have to go into your personal checkbook to pay for the case.
Can a shareholder be liable for company debts?
Directors and shareholders cannot be held accountable if a firm fails to return a debt. The corporation is exclusively responsible for the loan repayment. This is because, as the Supreme Court of India has frequently stated, a corporation is a separate legal entity from its shareholders and directors. A corporation registered under the Companies Act is a legal entity separate and distinct from its individual members or shareholders in the eyes of the law. As a result, the company’s property is not the property of its stockholders. A shareholder’s stake in the company is based on the firm’s Articles of Association, and is quantified by a sum of money for the purpose of liability and a share of the profit distributed.
In terms of directors’ liability, the Supreme Court has ruled that a corporation’s director or employee cannot be held vicariously accountable for any wrongdoing committed by the firm.
The RBI issued a master circular on wilful defaulters in July 2014. The “Circular” explains who can be branded a deliberate defaulter and under what circumstances.
If any of the following conditions are met, an individual, juristic entity, or business enterprise, whether incorporated or not, can be considered a wilful defaulter –
- The unit has failed to make its payment / payback commitments to the lender, while having the financial means to do so.
- The unit has failed to make its payment / repayment commitments to the lender, and has failed to use the monies obtained from the lender for the purposes for which they were obtained, instead diverting the money to other uses.
- The unit has failed to meet its payment / repayment commitments to the lender, siphoning off funds that have not been used for the specific purpose for which credit was obtained, and the funds are not available in the form of other assets with the unit.
- The unit has failed to make its payment / repayment commitments to the lender and has also disposed of or removed the movable fixed assets or immovable property granted by him or her for the purpose of securing a term loan without the bank / lender’s knowledge.
A wilful defaulter should be prevented from receiving new funding from banks and financial institutions for current firms as well as new endeavors for a period of five years, according to the Circular. The banks must ensure that the companies’ defaulting directors are removed from the boards of directors and that they are not re-instated on any board in the future. Defaulters will be denied access to the capital market, according to the RBI, and a copy of the list of wilful defaulters (non-suit filed accounts) and the list of wilful defaulters (suit filed accounts) will be forwarded to the Securities and Exchange Board of India (SEBI) by the RBI and the Credit Information Bureau, respectively.
Can you close corporation with debt?
It can be tempting to close a business and walk away, but dissolving a debt-ridden corporation needs some effort on the part of the board of directors.
What Are the Legal Obligations to Dissolving a Company?
The structure of a corporation will dictate how it dissolves, but there are some universal stages that apply to all firms. There may be measures to take at the state level to formally close the business after a decision to dissolve the firm has been made — either individually for a sole proprietorship or by a vote for an LLC or corporation. This varies depending on the state and the type of business.
To avoid being billed in the future, any false business names, licenses, or permits should be terminated. A company should know exactly how much it owes for debts, payroll, and taxes at this point. The final step is to notify creditors, employees, and any customers or clients.
Can a Company Dissolve Itself While it Still has Outstanding Debt?
Businesses owe taxes until they file a formal dissolution petition with their local, state, and federal governments. When a corporation files for bankruptcy, creditors are advised that the company has been dissolved, and no further credit will be granted. This also means you won’t have to pay any more payroll taxes.
Because dissolving a corporation is a government action, a corporation might close while still owing money. To avoid any fraudulent credit accounts being opened during the closing process, this is a smart practice. This isn’t to say that a company isn’t liable for the debt.
Does a Dissolved Company Still Have to Pay Corporation Taxes?
Tax responsibilities will vary depending on the type of business. Businesses with employees will be required to remit payroll taxes through the end of their operations, as well as any sales taxes that have accrued. To complete any tax obligations, a final income tax return should be completed.
Failure to pay taxes has dire consequences. The IRS has a larger reach when it comes to collecting unpaid debts, and directors and owners may owe taxes. To avoid personal financial problems, a dissolved corporation must pay all taxes it has incurred.
What Happens to Creditors if a Company is Dissolved with Outstanding Debt?
Creditors may suffer if a corporation is dissolved while it is in debt. Creditors have accepted a financial risk and may suffer repercussions if a company fails to pay its debt obligations. This means that creditors are incentivized to collect debts from enterprises, even if they have gone out of business.
Depending on which state they are in, creditors have varied rights. If a corporation refuses to discuss a settlement with its creditors, it may be subjected to additional collection efforts, including legal lawsuits. This might result in a rise in the amount of debt owed by a corporation.
What is a disadvantage of an S corporation?
Legal restrictions limit S corporations from having more than 100 shareholders or having stockholders who are not citizens of the United States. Annual meetings and the appointment of a board of directors are also requirements for S corporations. They are limited by strict profit and loss allocation rules. Furthermore, most partnerships, LLCs, trusts, and other corporations are unable to own shares or membership in S corporations.
Is S Corp limited liability?
Here are some of the most commonly mentioned benefits that a S corporation can provide to its shareholders. However, you should be clear on your short- and long-term objectives, as an advantage might become a S corp disadvantage in some scenarios.
Pass-through taxation, for example, is generally beneficial because it reduces taxation. However, if a company’s purpose is to save money for expansion—say, to build a new facility—a C corporation may be the preferable option because profits can be kept within the company.
Asset protection
One of the biggest benefits of a S corporation is that, regardless of its tax status, it offers limited liability protection to its owners. Limited liability protection protects the owners’ personal assets from business creditors’ claims, whether the claims are based on contracts or litigation. In truth, all businesses and limited liability companies (LLCs) offer limited liability protection.
Pass-through taxation
Business income, as well as many tax deductions, credits, and losses, are passed through to the owners rather than being taxed at the corporate level, which is a tax benefit for S corporations. This eliminates the risk of “double taxation,” which arises when dividend income is taxed first at the corporate level and subsequently at the shareholder level in C businesses. For federal (and most state) income tax purposes, a S corporation is a pass-through entity. A limited liability company (LLC) is also a pass-through tax entity. It should be noted that it can decide to be taxed as a C corporation if the business owners believe it is in the best interests of the company.
Salary and dividend payments
The owner of a S corporation has the option of receiving both salary and dividend payments from the company. This may result in a lower overall tax bill.
Why? This is due to the fact that dividends are exempt from self-employment tax. Furthermore, when calculating the amount of income that is passed through to the shareholders, the S corporation can deduct the cost of the wages paid.
The division between wages and dividends, on the other hand, must be “fair” in the eyes of the IRS. (The IRS keeps a close eye on these kinds of transactions and may intervene to reclassify the income if it believes the payments were excessive.)
Ease of conversion
All that is necessary of S corporation shareholders who wish to be taxed as a C corporation is to file this election with the IRS. An LLC that is now taxed as a pass-through entity but wishes to be treated as a C corporation can do so by submitting a form to the IRS. If LLC owners want to convert their LLC to a C or S corporation, they must follow both state corporation and LLC statutes and file documentation with the state. Dissolution/withdrawal filings, formation filings, and other types of filings are among them.
What is the difference between LLC and Scorp?
The treatment of the entity for tax purposes is perhaps the most fundamental difference between a S Corp and an LLC. While LLCs are frequently classified as pass-through businesses, meaning that the LLC’s income is distributed to its members, S Corps are accounting entities, which means that the S Corp calculates income and deductions at the corporate level before distribution to individual shareholders.
Another significant distinction between S Corps and LLCs is who is allowed to own the company. While most states allow individuals, companies, partnerships, and other entities to be “members,” or owners of an LLC, shareholders of a S Corp must be U.S. citizens or permanent residents. Furthermore, only certain types of businesses are permitted to be shareholders in a S Corp, and the total number of shareholders must not exceed one hundred.
Perhaps no distinction between the two business kinds is more significant in terms of day-to-day operations than the lack of corporate formalities associated with LLCs. In Indiana, for example, both S and C corporations are required to hold yearly shareholder and director meetings. An LLC’s members or managers, on the other hand, are not required to hold such meetings. Furthermore, while Indiana S Corps and C Corps are required to have at least one corporate “officer,” LLCs are not required to have any officers.
It may appear at this moment that the LLC is fundamentally superior to the S Corp. While this is true in some circumstances, S Corps provide considerable tax benefits to enterprises that make a lot of money. All excess profits can be distributed to shareholders as dividends, which are taxed at a lower rate than ordinary income. S Corps are required to pay their employees “reasonable” salaries (meaning salaries paid should be comparable to salaries paid by other businesses in the same industry), but all excess profits can be distributed to shareholders as dividends, which are taxed at a lower rate than ordinary income.
When can directors be held personally liable?
Board of directors officers have a legal obligation to operate in the best interests of shareholders and maximize profits. While an officer of the board of directors has limited liability for actions taken on behalf of the corporation, if he violates his fiduciary duties and engages in self-dealing or otherwise prioritizes his or a related party’s interests over the corporation’s, the officer may be held personally liable.
Can a corporate officer be held personally liable?
Officers and employees of corporations and limited liability businesses are typically not held personally accountable for actions committed on behalf of the company. There are, however, several noteworthy exceptions. As discussed in a previous post, if a corporation fails to follow corporate formalities and its shareholders mix personal and corporate funds, the shareholders may be held personally liable under the concept known as “personal liability.” “piercing the corporate veil” is a phrase that means “piercing the corporate veil.” A shareholder, officer, or employee can be sued individually if the corporation is accused of a tort in which the shareholder, officer, or employee directly engaged. Whether or not the corporate veil is broken, tort liability applies. For plaintiffs considering a case against a corporation, the distinction is critical.
A tort is a type of legal action “This is a “violation” of the law. It’s usually distinguished from a violation of contract. For example, if a corporate official drafts a letter ending a contract to which the company is a party that is unlawful or improper, the company could be sued for breach of contract. Despite the fact that the officer was personally involved in the conduct that led to the claimed breach, he cannot be held personally accountable.
A tort isn’t like that. Fraudulent misrepresentation, conversion (stealing), violation of fiduciary obligation, invasion of privacy, and other corporate torts are common. Even if the lawsuit is largely about a violation of contract, there may be tort-based grounds of action that are viable. In the recent New York case of North Shore Architectural Stone, Inc. v. American Art is in Construction, Inc., the Appellate Division Second Department found that a limestone company’s corporate officer knowingly lied about the delivery of a product to a party in order to persuade the plaintiff to pay for the product before it was delivered. This is more than a simple breach of contract due to late delivery of a goods. In that case, the Court concluded that because the defendant made the misrepresentation on behalf of the corporation, he could not avoid culpability simply because he was acting in his role as a corporate officer.
This decision emphasizes the significance for plaintiffs to assess whether they have a viable basis to sue not only the corporation, but also its officers or workers who engaged in the behavior that caused the damage. Plaintiffs benefit from this for two reasons: (1) all defendants may be more willing to settle the action favorably if they are concerned about personal liability, and (2) if a judgment is obtained against the individual, it provides an additional source of assets against which a plaintiff can attempt to collect. The judgment can be enforced on the individual’s personal funds, not just the corporation’s assets, which may be defunct or non-existent.
If you are considering filing a lawsuit against a corporation, you should have an attorney review your case to see if you have a viable tort cause of action against an individual who is an officer or employee of the corporation.
Are corporate officers responsible for corporate debt?
The majority of people (or groups of people) who participate in commercial business operations do so through a corporation, a limited liability company, or another type of New York-authorized business entity. Corporations are recognized as separate legal entities from their shareholders (owners) and executives once they have been lawfully incorporated. Because of this independent legal existence, one of the key advantages of doing business through a corporation is that individual owners and executives are often not personally accountable for the firm’s debts and liabilities. As a result, individuals can frequently conduct business through a corporation without jeopardizing their own assets.
However, like with any general rule, there are some limited instances in which a shareholder or officer may be held personally accountable for the corporation’s debts or liabilities. One such case is very simple but frequently overlooked: a person, including a shareholder or official, might be held personally liable for a corporation’s debts if he or she has decided to be held personally liable. When an individual agrees to act as a co-borrower or guarantor on a loan or other extension of credit made to the corporation, this situation frequently arises. A bank, for example, may refuse to extend a line of credit to a company (especially one that is still in the early stages of development) unless a separate individual personally guarantees repayment. If the company fails to repay the loan, the bank may file a claim against the company as well as any individual co-borrower or guarantor.
A Court Can Decide to Pierce the Corporate Veil
A second scenario is when a plaintiff persuades a court that there are reasons to dismiss the case “pierce the corporate veil” and hold a shareholder personally liable for the corporation’s debts or obligations Conducting business in the corporate form is regarded a privilege, and if that privilege is misused, courts may disregard the corporate form and hold corporate stockholders directly liable. A plaintiff who requests that the Court breach the corporate veil bears a hefty burden, as doing so eliminates one of the fundamental benefits of doing business through a corporation. While the precise facts and circumstances of each case must be considered, courts have typically recognized two grounds for piercing the corporate veil and imposing individual accountability on shareholders. First, a plaintiff may be held liable as an individual shareholder if the plaintiff can establish that the shareholder had entire control over the company in relation to the transaction in question and that this control was utilized to commit a fraud or other wrong against the plaintiff. Second, even in the absence of fraud, a Court may pierce the corporate veil where corporate procedures have been ignored to the degree that little, if any, separation exists between the corporation’s business dealings and the shareholder’s personal concerns. When a shareholder conducts personal business through the corporation (paying a personal mortgage, for example), uses corporate funds for personal purposes, co-mingles personal and corporate assets, fails to keep separate accounts and records, and/or undercapitalizes the corporation, this latter ground is frequently invoked.
Third, a corporate officer may be held personally liable under New York law for his or her personal participation in the corporation’s affirmative commission of a tortious act (i.e., a civil wrong) by “malfeasance” or “misfeasance,” but not by “misconduct.” “Nonfeasance” is a term used to describe a person who does
Thus, a corporate official may be held personally accountable for affirmative wrongful acts (such as misrepresentation or fraud) committed on behalf of the corporation, but not for negligent activities (such as a failure to act).
Finally, several federal and state statutes allow shareholders and/or officers to be held personally liable for a corporation’s obligations. For example, under New York’s Labor Law, certain owners or officers of a corporation may be held personally accountable if they intentionally participate in a corporation’s failure to pay its workers the prevailing wages and supplements required by law.
Make Sure You Know the Exceptions Where You Could Be Liable
While the general rule in New York is that owners and officials are not personally accountable for a corporation’s debts and obligations, there are some circumstances in which individuals may be held personally liable for claims brought against the business.
If you have any concerns about your current position as a shareholder, officer, or owner of a corporation, you should consult with an Albany business law and employment expert. To schedule a free consultation with our experts, call our office today.
