I am always amazed at how many attorneys let their clients loose with a new investment company without spending the time to go over how to actually use the business. There is a learning curve associated with properly running a business. I know that you are devoting your time to your investing. Don’t worry, the process actually is quite simple but it does take some practice. The time and expense you put into creating your investment company could be utterly wasted if you fail to follow the formalities of running the business. The formalities associated with maintaining your company are going to vary greatly depending on whether you have created a corporation, limited partnership or limited liability company. I will address those distinctions at a later date, but for now let us focus on the biggest traps you as an investor may find yourself in when you are running your investment company. In a nutshell: unless you have a sole proprietorship, the investment company is not you and it must be treated as a separate and distinct entity.
Have a Distinct Name for your Company:
We all have a little vanity in us. Often times it seems like a good idea to name the investment company after yourself to gain name recognition in your industry. I would err on the side of caution and not go down this slippery slope. I say this because it is very easy for another investor or a tenant to get you and your company confused. It is crucial that when you transact business, give out business cards, enter into wholesales or lease options, or even when you interact with your tenants, that they understand that they are dealing with you as an agent of your investment company.
When I hand out a business card, the name of my company is prominently displayed on the card and my name is listed as manager of the business. By doing this simple act, I have put the other person on notice that when they are dealing with me they are dealing with me as an agent of the company. If a transaction goes sideways, the other party has to look to my company for relief instead of me personally. The purpose of our investment companies is to separate ourselves from personally liability if something goes wrong inside of our businesses. If you name the investment company after yourself, you are giving the other party a very good argument in court: they didn’t realize that a separate company existed; they thought they were dealing with you personally. Take this argument completely off the table and name your company something other than your own name.
Probably one of the greatest blunders business owners make is they fail to keep personal funds and business funds separate. Every investment company you have needs to have its own bank account. When your company makes money, it is not your money to do with as you choose. You need to follow the formalities of how your company is created. There are different rules and tax consequences when you are pulling money out of a corporation than when you pull money out of your LLC. I once met an investor who had 37 LLCs set up by one of the “best” law firms in Wisconsin, but his attorney never explained to him that each company needed its own account. All of the rent payments were coming directly to his own personal account. Unfortunately, a tenant slipped and fell on one of the properties held in one of his LLCs. During the lawsuit, the plaintiff was able to convince the court that since the LLCs were not treated separately in terms of the funds and accounts, all of the LLCs should be ignored and this investor ended up getting held personally liable for the injury. All of the time and expense in creating those 37 LLCs was a complete waste because of this one simple mistake.
Don’t Use Business Funds to Pay Personal Expenses
Keep repeating the mantra “This money is my company’s, not mine.” Even if you have set up the accounts properly, don’t fall into the habit of using your investment company’s money for your own personal expenses. You do not want to use those funds to pay for your groceries or the kids’ presents for their birthdays. It seems like common sense, but unfortunately this happens every day. There are two main problems when you use the company’s money this way:
• There could be adverse tax consequences depending on the tax structure of your company.
• You open yourself up in a lawsuit for the plaintiff to successfully argue that the company is really your “alter ego” since you consistently used business funds for personal items.
If you are purchasing something and you are not sure if it will be used for your business, pay for the item personally. If it ends up being an item that will be devoted solely to the business, your company can always reimburse you for the expense.
No matter what type of business you have created for your investment activities, if you have any control of how the company is run then you are an agent of that company. You need to sign business documents and contracts in your official capacity, whether it be president, manager or general partner. Unless the document is created on your own company letter head or specifically designated in the agreement, as an agent of the company, always sign your name and then indicate your position within the company. For example, when my LLC entered into a contract with a mobile phone provider, I signed as Greg Boots, Manager of Anderson Business Advisors. By indicating my position within the company, I put the provider on notice that I was acting in my managerial capacity on behalf of the LLC and not as Greg Boots personally.
Just a Few Simple Rules
Generally, occasionally neglecting one of these requirements is not the end of the world. It is a consistent pattern of not treating your investment company separate from you that is going to potentially create some real problems. Keep it simple:
• Name your investment company something other than your name.
• Each business needs its own bank account.
• Don’t use business funds for personal expenses.
• Always sign documents as an agent of the company.
By following these simple rules of business formality you will help ensure that if the worse-case scenario arises, it will be much more difficult for the plaintiff to convince the court to hold you personally liable for the harm.