Often Entrepreneurs and business owners elect to create a formal business entity, such as a limited liability company (LLC), to shield themselves from personal liability.
In other words, they create such an entity to ensure that if an adverse court judgment is entered in relation to the business’ activities (e.g. breach of contract; slip & fall; infringement, etc.), the judgment is solely collectible against the LLC and not against the individual owner(s) in their personal capacity.
A recent Iowa Court of Appeals case illustrates that limited liability is not an automatic benefit conferred upon business owners when creating or establishing an LLC.
Specifically, the Iowa Court of Appeals determined that while business owners may set up a new entity (e.g. LLC), creation alone is not the only factor a court will assess when determining whether a business owner may be personally liable.
In rendering its opinion, the Court identified six different factors a court may consider when determining whether to hold a business owner in an LLC personally liable:
Factors that would support such a finding include [whether]:
- the corporation is undercapitalized;
- it lacks separate books;
- its finances are not kept separate from individual finances, or individual obligations are paid by the corporation;
- the corporation is used to promote fraud or illegality;
- corporate formalities are not followed; and
- the corporation is a mere sham.
Keith Smith Co. v. Bushman, 873 N.W.2d 776 (Iowa Ct. App. 2015)
While no one factor is determinative, these factors illustrate various characteristics an Iowa court will consider in determining whether to “pierce the corporate veil” and hold a business owner personally liable. The Bushman case is yet another important reminder that while formally establishing an LLC is a great first step in seeking limited liability, it is not the only step.