Clients often seek for their ownership in their business to be entirely anonymous. There are various reasons for this, including the desire to avoid frivolous lawsuits. Perhaps someone you know just got sued recently and you think that you can elude the same fate if only people were not able to find the assets that you own.
Many online incorporation service companies hype certain benefits of privacy, which often includes asset protection on a personal level, simply by establishing the company under certain states’ laws. Nevada, as well as a few other states, is usually one of the states being marketed as a haven for privacy and asset protection. Nevada does not require you to disclose the names of the corporate shareholders or the members of an LLC that is manager-managed in the necessary state filings, which are public records. Normally, these so-called “privacy” states just demand the disclosure of the managers of an LLC or officers and directors of a corporation in the organizing documents and the annual filings. These states are also lauded as maintaining much better laws for protecting the personal holdings of members and shareholders from the attack of creditors of the LLC or corporation.
But, beware. Many myths exist concerning asset protection and how much privacy can help. Guaranteeing protection just through ownership privacy is simply a myth. Many entrepreneurs just starting a business are attracted to this belief which amounts to hype that is just false. In this post and a couple to follow, I will address these myths. The truth is that privacy alone won’t protect assets. Privacy is marginally beneficial at best.
What a state’s privacy protections may be able to do is help prevent frivolous lawsuits in the first place. Preventing someone from uncovering what company ownership interests you have simply by performing a quick search the secretary of state’s records is certainly a desirable thing. A plaintiff will need to expend more cash on the case, and most litigation is purely a game of economics. This may prevent baseless claims. So, even though privacy can make finding your assets more expensive for a possible plaintiff, a creditor that is up to spending the money usually won’t have any difficulty discovering your assets.
Particularly, whether you should organize the business under Nevada (or even perhaps Wyoming) laws, or possibly use nominee designations are not uncommon questions that I’m asked. In short, Nevada, along with a couple of other states, do provide some potential privacy protection, but that’s not a guarantee your assets will be protected or that you’ll avoid liability for your conduct. Moreover, these states provide no significant benefit above the other states regarding lawsuits involving attempts to pierce the corporate veil and evade a creditor’s attack on the business owner’s personal assets.
Let’s take a look at the first myth.
Myth#1: Privacy On Its Own Protects Assets
The privacy furnished to business owners that organize in Nevada simply does not protect the owner’s interest in the LLC or corporation from any creditors. To illustrate, under Nevada statute, NRS 21.080, all of a judgment debtor’s personal and real property is subject to execution unless it is otherwise exempt. When a creditor receives a judgment against the owner, the business owner’s interest in the corporation or LLC becomes subject to charging order. If your company has remained “hidden” due to the privacy you’ve taken advantage of, you could do one of a couple of things.
Either you could ignore the court’s order to give testimony concerning your assets (or if you show up, just refuse to answer any questions) and thereby face contempt charges and possible prison time. Or you could perjure yourself by essentially lying about the existence of the LLC or corporation or other assets you may be questioned about. Obviously, neither choice is very appealing and illustrates why the perception of privacy doesn’t in and of itself protect assets. Don’t be misled if you read otherwise.
Regarding personal protection from liability, there is very little advantage to organizing in some other state where the business does not have assets nor conducts any business activities. You see these web-based asset protection companies touting either Nevada or Wyoming as the best laws for protecting personal assets from creditors. However, the laws of other states can often be superseded, or at the very least enhanced, to benefit the business owners through the entity’s organizational documents, such as by a well-drafted operating agreement for an LLC or corporate bylaws to a lesser degree. Consequently, the business owner can often accomplish their goals regarding liability protection furnished by default by following another state’s laws without turning to that state’s particular “default” statutes.
Another thing not often mentioned by the online business creation and asset protection service companies is that if a litigant is trying to pierce a business’s corporate veil, the court will frequently apply the laws of their own jurisdiction and not the law of the state in which the company was formed.
Setting up your company in Nevada or another state where you do not live will not necessarily shield your assets from a persistent creditor who ultimately tries to attach, execute on, and liquidate your assets in satisfaction of a judgment against the company. This is different than an internal dispute about the governance of the company, where, as a general rule, foreign state courts will typically apply the laws of the state where the entity was organized for such internal disputes.
Next week we’ll cover a couple more myths concerning privacy and asset protection.