Monday, July 13, 2009

Another Misleading Advertisement for "Self-Help" Legal Work

Last week I posted about the deficiencies of "do it yourself" estate planning. Today I heard a radio ad for a company that forms corporations to "help you protect your assets." The ad said, that while "we don't give legal or accounting advice," you certainly don't need a lawyer to establish your own corporation.

Well, certainly anyone can form a corporation in New York, and probably any state for that matter. The real question is, once the corporation is "formed" -- which I take it from the ad means that the corporation has been filed with the Secretary of State and the "customer" is provided with the basic "corporate kit" -- what then?

For many business law attorneys, the corporation is a little-used entity today. The limited liability company, or LLC, provides greater flexibility, and much better asset protection than a corporation. Understand that under the laws of most states, corporate stock is personal property that is attachable by the shareholder's creditors. So, imagine that you own 100% of the stock of your trucking business which is incorporated as XYZ corporation. XYZ Corporation in turn owns all of the business's assets such as vehicles, machinery and inventory. One day you have a party at your home (which is owned in your own name), and some inebriated party goer trips going out the door and breaks his neck. Because this person's cousin happens to be a high-powered lawyer, he is able to secure a judgment against you personally for $10 million. Even if you have a $2 million "umbrella" insurance policy, you're still $8 million in the hole.

Well, at least your business is protected, right? Well, not so fast. In most states, your judgment-creditor will be able to seize the stock in your corporation, fire you as an officer and director, and substitute himself in your place. Once in control, the creditor can liquidate the business's assets, or do anything else with the business that he pleases.

Had the business been established as an LLC, the laws in many states (including New York) provide that a judgment-creditor cannot seize the judgment-debtor's membership interests in the LLC, but is instead limited to the remedy of a "charging order" against any distributions made from the LLC to you as the member (as a caveat, we are now recommending that there be at least two members of an LLC, as at least 3 bankruptcy court decisions in other states have allowed creditors to liquidate assets of a single-member LLC, but would not have permitted such liquidation for a multi-member LLC). Since you would remain in control of the entity, you would stay in control of the entity's assets and can keep those assets at arms-length from your creditor, which may encourage a settlement for much less than the judgment amount.

So, I bet that corporation formation company will provide their prospective clients with a similar run-down of all the asset protection issues involved in selecting a business entity -- right?

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