From the Nolo eCommerce Center
Failure to follow corporate formalities or to keep adequate records and minutes of meetings can result in the loss of your limited liability status.
As the owner of a corporation, you are required to hold shareholders’ and directors’ meetings, maintain corporate records and document major corporate decisions. Neglecting these formalities – in essence, ignoring your corporation’s separate existence – can mean that if your business runs into legal trouble, your corporate status may be similarly disregarded by a court. If this happens, you may lose your limited liability, leaving you personally responsible for corporate debts.
The good news is that many states have streamlined the procedures for operating a small corporation, permitting owners to make decisions quickly – without jumping through needless procedural hoops.
Who Makes Corporate Decisions?
To understand the corporate decision-making process, let’s look at the different legal roles people traditionally play in a corporation: shareholder, director, officer and employee. As we consider these roles, keep in mind that you can set up a corporation in which one or two people play all of them.
Shareholders own stock (called shares, or ownership interests) in the corporation. Shareholders have the exclusive right to make the following decisions:
- elect and remove directors
- amend the articles of incorporation and bylaws
- approve the sale of all or substantially all of the corporate assets
- approve mergers and reorganizations, and
- dissolve the corporation.
State laws typically require the shareholders to hold an annual meeting, but in many states, shareholders can use a “consent action” or “consent resolution” – a document signed by all of the shareholders – in place of a face-to-face meeting.
The board of directors sets policy for the corporation and makes major financial decisions. Among other things, the directors:
- authorize the issuance of stock
- elect the corporate officers
- set officer and key employee salary amounts
- decide whether to mortgage, sell or lease real estate, and
- approve loans to or from the corporation.
While many states require directors to hold regular meetings, it’s often simpler and just as effective for the directors to take actions by signing a consent resolution or consent action. Alternatively, most states allow directors’ meetings to be held by telephone.
While the organizational structure of corporations separates the rights and duties of shareholders and directors, this separation isn’t much of an issue for small corporations because most shareholders are also directors and officers. However, even if you are both a shareholder and director of your corporation, you must still observe the formalities required by law, which means wearing different hats at different times. For instance, sometimes you’ll have to sign a document in your capacity as director, at other times you’ll sign as a shareholder.
Officers are responsible for the day-to-day operation and management of the corporation. State laws usually require that the corporation have at least a president, a secretary and a treasurer (sometimes called a chief financial officer). But in most states, one person can hold all of the required offices.
The president is usually the chief operating officer (COO) of the corporation. The secretary is responsible for the corporate records. The treasurer, or CFO, of course, is responsible for the corporate finances, although it’s common to delegate everyday duties to a bookkeeper.
In small corporations, the owners are usually also employees of the corporation. Owners of small corporations receive most of their financial benefits through the salary and other compensation they receive as corporate employees.
Documenting Corporate Decisions
While you don’t need to document routine business decisions, you should prepare written minutes or consent resolutions for events or decisions that require formal board of director or shareholder participation. These include:
- the proceedings of annual meetings of directors and shareholders
- the issuance of stock to new or existing shareholders
- the purchase of real property
- the approval of a long-term lease
- the authorization of a significant loan amount or substantial line of credit
- the adoption of a stock option or retirement plan, and
- the making of important federal or state tax decisions.
If you document important corporate decisions, whether through formal written minutes or less formal consent resolutions, you’ll protect your limited liability status – and you’ll have solid documentation if key decisions are later questioned by creditors, the courts or the IRS. In addition, keeping good corporate records allows you to note the reasons for making critical decisions; this can head off controversy and dissension in your ranks in the future.
To learn more about corporate decision-making and recordkeeping, read The Corporate Minutes Book, by Anthony Mancuso (Nolo).