Are You Using The Right Legal Entity For Your Business

Today’s blog is courtesy of our benefits counsel, Walter Wilson. Mr. Wilson is the managing partner of The Wilson Legal Group, Houston, Texas. Today’s blog is a bit technical, but the crux of the article is that different legal entities provide different levels of protection for the owner. The type of legal entity that you choose is critical when doing financial and business planning.

Effective September 7, 2007, a new law went into effect in Texas that offers business owners a more effective “corporate shield” to protect businesses from having its assets and company interest “seized” by a judgment creditor. Most business owners incorporate their business for two primary reasons: (1) to insulate the owners of the business (and their families) from business liabilities and (2) to help reduce Federal Income Tax liability.

Operating as a corporation, shareholders are not personally liable for corporate obligations. However, until this new law was passed, businesses had no similar protection from liabilities created by the business owner.

If a majority shareholder of a corporation was sued and a judgment taken against that shareholder, the judgment creditor could “seize” the shareholder’s stock, take control of the corporation, liquidate its assets and put the shareholder out of business. The judgment creditor could threaten to do this and the shareholder would be forced to settle for cash which normally comes from the business in the form of a loan or sale of assets. Usually the judgment debtor shareholder will do anything to protect the “cash cow” which is the business. Either way, potentially, under old law in Texas, the business would lose!

House Bill 1737 offered a solution to “plug” this hole in the corporate shield by giving entities organized as a limited liability company or a limited partnership greater protection than ever before. Texas has now limited the remedies available to a judgment creditor of an individual member of a Limited Liability Company or LLC (for Professionals a PLLC) or limited partner of a limited partnership (LP) to one remedy, that being a “charging order” remedy.

Now, a judgment creditor cannot “seize” the equity of an individual member or limited partner, cannot take the company away from the shareholder/partner or even threaten to interfere with its business in order to make a party settle. The creditor is left only with a “charging order remedy” which means that the creditor can only seize income the judgment debtor is entitled to receive from the company, and not have access to an interest or potential control over the company, itself.

For physicians as an example, the change offers greater flexibility in structuring buy-sell provisions among multiple parties (owners) of the practice since they no longer have to buy-out the member who is subject to a judgment creditor to collect on a personal debt. So often, entities focus on tort liability claims and exposure associated with their core business of practicing medicine. They often fail to consider the effects of having one of their members subject to a judgment creditor for matters of a “non-professional” or “non practice” nature.

Always consult with your CPAs and legal counsel to consider whether you should consider either forming a PLLC (which can include one person) or restructuring their existing professional association (a corporate entity) or limited liability partnership into a PLLC. This is a simple process that is done by filing documents with the Secretary of the State of Texas. If you are in the health care profession, it does not affect the tax identification or your Medicare provider numbers as it is a “statutory conversion.”

….. This article is not intended as legal advice, but is intended to make physicians aware of these changes in Texas corporate law so they can evaluate with their business advisors whether they should take advantage of this additional protection now available.

Steve Cook is the managing shareholder of Cook and Associates, PLLC, Certified Public Accountants, with offices in San Antonio and San Marc