The legal protection that a limited liability company offers its owners is not perfect or complete. Yes, you always get at least some legal liability protection by using a limited liability company. But you don’t get total legal liability protection with an LLC. In fact, limited liability companies fail to protect their owners in at least three situations:
Trust Fund Taxes
If an LLC accepts custody of trust fund taxes, such as employee payroll withholdings or state sales taxes paid by customers, the LLC’s owners can find themselves liable for remitting those funds to the federal government or to the state government if the LLC doesn’t.
This makes sense if you think about it. Suppose you own and operate an LLC and the LLC holds some of the state’s sales tax money. Or suppose you own and operate an LLC and the LLC withholds money from an employee’s payroll check. In both of these situations, the LLC has (and indirectly you have) custody and responsibility for some other entity’s funds. Because you were in a position to assure these trust funds were remitted to appropriate agency–and you didn’t–the agency can make you personally responsible if the LLC fails to remit.
As a general rule, the owners of a corporation or of a limited liability company are not responsible of the debts of the corporation or limited liability company merely by virtue of their ownership. In other words, the owners of the corporation or LLC can’t be forced to come to the financial rescue of the corporation or LLC.
However, you might still liable for something that happens inside a corporation or limited liability company that you own by virtue of your personal conduct. And a quick illustration demonstrates this. Suppose that your LLC operates a trucking company and that one of the trucks — a truck you happen to be driving–runs somebody down. Clearly, the LLC will bear liability for this accident. But you, the driver, will be also bear liability because you’re the driver. (Hopefully, in this case, you or the LLC will have adequate insurance.)
Note: You and I also have liability as employees for any organization we work for. For example, if you or I go to work as a driver for some trucking business that’s incorporated or that’s formed a limited liability company, we will be liable if we run some poor pedestrian down. That fact that the trucking company operates as a corporation or limited liability company won’t protect us. Obviously.
While state laws say that an LLC’s owners are not liable for the debts of the LLC merely by virtual their ownership, the parties with whom the LLC contracts sometimes require a personal guarantee from the LLC owner.
In the case where an LLC borrows money from a bank, for example, the bank may not be willing to loan money to the LLC unless the LLC’s owners personally promise to repay the bank loan in the event that the LLC can’t or doesn’t repay the loan. Sometimes major vendors or customers also require an LLC’s owners to personally guarantee the contractual commitments the LLC makes, too.
In these situations, when the LLC owner provides a personal guarantee, the LLC owner essentially gives up the limited liability company protection offered by the LLC–at least in terms of the contract backed by the personal guarantee. In this case, the personal guarantee creates liability.