A. The LLC Veil.
Limited liability companies (“LLCs”) are entities separate from their owners (called “members”). Generally speaking, an LLC is solely responsible for its debts and liabilities and members are not. RCW 25.15.125(1). The liability shield an LLC provides its members is commonly called the “LLC’s veil.”
B. Piercing The LLC Veil To Hold LLC Owners Liable For LLC Debts.
In certain circumstances an LLC’s veil can be “pierced” to hold members personally liable for LLC debts. RCW 25.15.060. But doing so is not easy, and creditors carry a heavy evidentiary burden. In Washington, the creditor must prove (1) the LLC was used to violate or evade a duty, and (2) the LLC must be disregarded to prevent loss to the innocent creditor. Landstar Inway, Inc. v. Samrow, 181 Wn. App. 109, 123 (Div. 2 2014). Under the first element, the creditor must show the member abused the LLC’s form–typically by way of a fraudulent misrepresentation or manipulation of the LLC to the member’s benefit and creditor’s detriment. Id. Under the second element, the creditor must show that holding the member liable for the LLC’s debt is necessary to avoid the consequences of intentional misconduct harmful to the creditor. Id.
C. Some Practical, Concrete Advice.
So what can be done to reduce the likelihood than your LLC’s veil is pierced?
For starters LLC members need to comply with Washington’s LLC Act and the LLC’s operating agreement (assuming there is one), and follow corporate formalities so the LLC is not seen as the alter-ego of its members. For example:
- If the LLC’s operating agreement requires annual meetings, then annual meetings should be held. See RCW 25.15.060.
- Personal funds should not be commingled with LLC funds.
- LLC money should not be used to pay personal expenses, and vice versa.
- Contracts should be signed in a member’s capacity as member or manager of the LLC, not in his or her individual capacity. For example, a contract entered into by a manager-managed LLC should be signed like this:
ABC Services, LLC
/s/ John Doe
- LLC accounting and other records should be kept and properly maintained. See RCW 25.15.135 for recordkeeping requirements.
- Business decisions, particularly important ones, should be captured in writing via meeting minutes and a resolution. See RCW 25.15.120.
- Member contributions should be evidenced in the LLC’s records.
- Similarly, member loans to the LLC should be evidenced by appropriate loan documents – like a promissory note.
- Distributions from the LLC to members (which are different than wages) should not be made unless (1) the LLC has enough money to pay its debts as they come due, and (2) the fair value of the LLC’s assets exceeds the LLC’s liabilities. See RCW 25.15.235.
D. Factors Courts Consider When Deciding Whether To Pierce The LLC Veil.
Here is a non-exhaustive list of factors that weigh in favor of piercing an LLC’s veil and holding its members personally liable:
- The LLC is undercapitalized.
- Failure to follow corporate formalities.
- Keeping no or very few corporate records.
- Siphoning LLC assets or comingling LLC funds with personal funds.
- Using the LLC to perpetrate a fraud.
- Ownership of the LLC by one or very few owners.
- Complete control of the LLC by an individual who treats the LLC as an extension of him or herself.
Piercing an LLC’s veil is difficult. Whether a court does so is very fact specific. LLC owners should consult with an attorney when forming an LLC and throughout the LLC’s life to make sure the business is properly managed, minimizing the risk the owners are held personally liable for the LLC’s debts. For these and other business-related questions, please feel free to call the attorneys at Zeno Bakalian P.S., at 425-822-1511.