Forming a corporate entity (either a limited liability company or corporation) is the first step for any small business owner to minimize personal liability for the financial risks of the company. Absent a corporate shield, entrepreneurs face liability for the debts and liabilities of their small business.

Corporation vs. Partnership

Originally, there were only two types of businesses: corporations and partnerships. Corporations were separate legal entities that could own property, sue and be sued. The hallmark of corporate ownership was that ownership of the corporation was divorced from management (i.e. people could own shares but never get involved in daily management). Conversely, partnerships combined ownership and management, each partner was equally responsible for the partnership’s actions.

In the 1970s, the United States began experimenting with a new corporate entity, the limited liability company (“LLC”). The LLC combined aspects of partnership and corporate ownership. The LLC was a separate legal entity, like a corporation, and the owners could not be held personally liable for its debts in certain situations. It also maintained some aspects of partnerships, meaning there were general members (people who could be held liable for the LLC) and limited members (those who could not, like corporate shareholders).

Forming an Entity

To form a corporate entity, an entrepreneur must file articles of organization with their respective Secretary of State. As a general rule, any time an entrepreneur seeks to form a corporate entity – they must file some organizing document with the state.

Benefits of Corporate Shields

There are two primary benefits to establishing a corporate entity. First, liability is minimized. Specifically, owners of corporate shields cannot be held liable for the debts and liabilities of their corporation or LLC. Second, there are some tax advantages – depending on the business entered into and the corporate entity selected.

Risks of Corporate Shields

Corporate shields do not grant carte blanche authority to their owners to act however they want. Owners must follow basic rules for the courts and government to respect the corporate entity. For example, a corporate entity must have its own bank account, articles of organization, and bylaws. Owners cannot treat the corporate entity as their personal piggy bank or they could risk losing the protection of the corporate shield.