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  • Tom Lewis

When Corporate Formality Matters



Article by: David Baxter



John is the owner of an air conditioner repair business he started a few years ago.  He went to a lawyer who set up a corporation for his business and advised him that a corporation can shield John’s personal assets from the liabilities of the corporation. John is the only stockholder.  Every year John files his annual report with the North Carolina Secretary of State. Since John is the only shareholder, he also uses his personal bank account as his corporation’s operating account and does not hold annual meetings of the shareholders and directors.  While business has been steady, John’s business is unable to pay a supplier for parts.  The supplier sues John’s company but alleges that John’s corporation is an alter ego of John and; therefore, John should be personally liable for the debt in addition to the corporation.  John says, “No, my attorney told me that I can’t be personally liable for the debt of my company.”  John is only partially correct. 


What John does not realize is that in order to protect his personal assets from corporate liability, he must act in a way that separates himself as the individual from himself as the corporate officer and shareholder and document those actions. John, as the only one acting as corporate officer and director, has a fiduciary duty to his corporation to follow corporate formalities and to ensure that the corporation can pay its debts.  By failing to hold annual meetings and commingling his personal funds with his business assets, he has potentially created personal liability for himself in his corporation’s dealings.  North Carolina courts can disregard the corporation for liability purposes if it finds that the corporation is a “mere instrumentality” or “alter ego” of John. The court makes this determination by examining how the corporation is governed and operated.  Commingling of assets and failure to follow corporate formalities are huge factors in the analysis.


John is not alone.  Many small corporations that contact me are run like John’s. It’s not intentional, but small business owners are busy and often only have time to devote a minimal amount of time to corporate administration of the business. So, how does an individual guard against a plaintiff trying to recover from him or her personally due to the actions of his or her corporation? Even a corporation with a single shareholder should hold annual meetings during which it appoints officers and directors.  This usually can be done in a written document that shows action was taken each year by consent without a physical meeting.  Corporations, regardless of size, should have their own tax identification numbers and separate bank accounts from their principals.


If this seems overwhelming, many small business owners feel the same way. But, many business owners do not seek the assistance of an attorney in the continued corporate governance of their business due to expense.  While there is expense associated with contacting an attorney, there is a far greater expense in facing personal liability in your company’s lawsuit.  Small business owners should seek guidance from an attorney not only for setting up a corporation but also to assist in establishing compliant ongoing business practices. Although it is a self-serving statement, it is no less true. If John had done that, he would likely not be facing a potential claim against his personal assets for the debts of his corporation.  NOTE: John and his corporation are hypothetical, and any similarities to actual people, corporations, or events are purely coincidental.


The information in this Article is provided solely for informative purposes and is not intended to be legal advice nor relied on for any legal purposes.


Sumrell Sugg, P.A. is a regional legal firm that provides clients with first-rate services in a cost-effective manner. Whether clients are individuals, corporations, or local governments and municipalities, our firm delivers on an undeviating promise of service. For more information, visit us at www.nclawyers.com.




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