Just a few words here about asset protection. For purposes of inside creditors, the LLC and the Corporation are much the same. The corporation requires corporate compliance whereas the LLC does not. If there are inside debts or claims, then the operating of business as an S-Corporation, C Corporation or LLC provide the same protection. Real estate needs to be protected and the LLCs are usually the best way to do it (in addition to proper insurance). The LLC is more advantageous because it avoids double tax if the real estate is sold and it is usually more difficult for an outside creditor to attack the real estate inside an LLC than against an S Corporation and C Corporation.
The major problem with most Corporations and LLCs facing an attack on the protection of a liability veil is the alter ego liability factors. The use of the LLC or Corporation cannot be involved in the personal affairs of the owner. The disregard of legal formalities and the failure to maintain arm’s length relationships among related entities can result in disastrous consequences. The use of the corporate entity to procure labor, service or merchandise for another person or entity can be a problem. The diversion of assets from a Corporation to a stockholder or other person or entity, to the detriment of creditors, or the manipulation of assets and liabilities between entities so as to concentrate the assets in one and the liabilities in another different entity is also problematic. The contracting with another with intent to avoid performance by use of a corporation as a subterfuge or illegal transactions can be disallowed. The formation and use of Corporation or an LLC to transfer the existing liability to another person or entity is also not permitted.
The major problem we see with respect to piercing the LLC or corporate veil is the co-mingling of funds. This occurs when the operating business bank account pays expenses for the owner that are personal in nature. For example, if the operating bank pays entertainment, household, cleaning and related expenses, mortgage payments and other kinds of personal expenses on behalf of the individual member, then there can be serious problems.
Recently, there has been some attention given to the fact that a single member LLC does not provide proper inside protection. We disagree with that position and the law makes it specifically clear in all of the states that the purpose of the LLC is to provide a shield of liability against creditors.
The Charging Order
As we have discussed, outside creditors are those creditors whose claim arises outside the purview of the business entity and are generally asserted against the business or real estate owner personally. In order to understand the benefits of having a Charging Order be the exclusive creditor remedy, one needs to understand what a Charging Order is. A Charging Order is more or less like a garnishment of income in that it is an order of the court in favor of the creditor requiring that any distributions from the LLC to the debtor limited partner or member can be made to the creditor who obtained the Charging Order. A Diagram showing a normal distribution scheme is set forth below:
The advantage of the Charging Order is that it protects the assets of the LLC from the creditor. The creditor is only entitled to distributions and if no such distributions are made, the creditor is generally out of luck. However, many courts have broadened the Charging Order relief and have provided for generous interpretations of the Charging Order remedy allowing the creditor to get to the assets one way or another. California is certainly one of these states and that is why we use a different state for the formation of LLC which has stronger LLC Charging Order protection. The design below shows the Charging Order Distribution process.
We forum shop when we set up an LLC. We want the LLC to be created in a state which has an exclusive remedy for Charging Order relief and, as we mentioned before, these states include Nevada, Wyoming, Arizona, South Dakota and Alaska.
For more information on Liability Protection In The State Of California, an initial consultation is your next best step. Get the information and legal answers you are seeking by calling (714) 384-6500 today.