Introduction to the Legal Basics of Business Formation

by Jeshua Lauka

 1.      Why form a business entity?

You could technically operate your business as a “sole proprietor” – give your business a name and then your off! Why take the time to incorporate a business entity?
Answer:

To ensure that you, as the owner of the company are not liable for the debts of the Company.

The Michigan Limited Liability Company Act provides at Michigan Compiled Laws 450.4501 that:

“Unless otherwise provided by law or in an operating agreement, a person that is a member or manager, or both, of a limited liability company is not liable for the acts, debts, or obligations of the limited liability company.”

The same limitation of liability applies in forming a corporation under the Michigan Business Corporation Act. A corporation is treated as an entity that is completely separate from its stockholders. Foodland Distrib v. Al–Naimi, 220 Mich.App 453, 456; 559 NW2d 379 (1996)

2.      How do you form a business entity?

 Answer:

 A.    First pick out a name.

If you are looking to create a limited liability company, you need to confirm that the name is available.  You can do so by searching the state of Michigan business entity name search tool: http://www.michigan.gov/lara/0,4601,7-154-35299_61343_35413-267825–,00.html

Besides a specific name being taken, you cannot include some specific words in your business name unless properly licensed – “e.g. – “medical” if you aren’t a medical professional, “insurance agency” if you are not a licensed insurance broker.

B.     Create Articles of Organization/Incorporation

If you are forming a limited liability company, you will need to file articles of organization listing such things as: how is your company going to be managed, by the members (like a traditional LLC) or by one or more managers (more of a corporate model). You will also need to list who the “resident agent” is going to be. Basically, who is the world going to look at, if they want to contact the business for any reason (e.g. – a lawsuit).

C.    Create an Operating Agreement/ByLaws

You will need to put together the document that spells out the owners’ relationship to the Company, and to each other. Think of it as a Partnership agreement. It should spell out such things as who owns what interest in the company. It should also clearly spell out a way in the case of a dispute.

I have seen more business disputes end in litigation because of this one issue: the bylaws/operating agreement was not drafted clearly to provide a way out of the business.

D.    Make sure to Operate Your Business as a separate entity – do not commingle assets!

In order to preserve your liability protection, look to take as much actions to separate the actions of the individual owners from that of the Company, e.g.

• Don’t commingle your business account and personal account
• Regularly document your business actions with minutes/consent resolutions, membership certificates, bills of sale
• Obtain a separate tax Id number for the Company
• Stay in Good Standing with the State of Michigan
• Make sure to clearly identify when you are signing a legal document on behalf of the Company, signatures should look something like this:

COMPANY, LLC

By:

John Doe

Its: Member

Remember that the consequences of operating your LLC or Corporation in a way akin to using it as your own personal piggy bank could result in you losing your liability protection if you are ever sued.

3.      Conclusion

The first step in starting your business should be to protect it. You can do this by forming a business entity such as a limited liability company or a corporation.