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The Importance of Incorporating: A Shield Against Potential Liability

One of the most important reasons for forming a corporation to run your business is obtaining a shield against potential personal liability. In general, once a corporation is formed, it becomes a separate legal entity. Thereafter, when the corporation signs a contract, then the corporation is a party to the contract and, with a few exceptions, only the corporation can be sued if there is an alleged violation of the contract. This gives the corporate form a tremendous advantage over running your business as a sole proprietorship or general partnership.

If you are considering forming a corporation or other legal entity such as a Limited Liability Company, you should consult an experienced San Diego corporate attorney for advice and counsel. The “few exceptions” mentioned above include legal and practice issues such as keeping the corporation in good standing and maintaining corporate formalities such as having annual shareholder meetings, having a separate corporate financial account, and more. A knowledgeable San Diego corporate attorney can also assist with the maintenance of your corporate entity once formed.

A recent US federal case provides a good real-world example of these legal principles in action. See Land O’Lakes, Inc. v. Triple V Dairy, Case No. 1:18-cv-00460-SAB (US Dist. E.D. Cal. 2018). In that case, members of the Valadao family — David, Terra, Edward, and April Valadao — operated a dairy farm in Tulare, California. They called their farm the “Triple V Dairy.” They did not operate the farm as a corporation, but rather as a general partnership.

In late 2016 and early 2017, the farm signed various supply and credit agreements with Land O’Lakes, Inc., a large national dairy company. During 2017, pursuant to the agreements, the dairy ordered about $700,000 worth of dairy and milk products from Land O’Lakes, but basically failed to pay for the goods. Land O’Lakes filed a lawsuit against the partnership for breach of contract. Land O’Lakes also sued each member of the Valadao family personally in their capacity as partners in the Triple V Dairy. Since the dairy was operated as a partnership, Land O’Lakes sought to hold the partners individually liable for the partnership’s judgment.

Land O’Lakes was successful and obtained a judgment of $852,942.83 which included accrued finance charges in the amount of nearly $135,000 and interest of more than $29,125.25. Had the Valadao family members incorporated their farm, then the judgment would have been entered against the corporation.

However, because the farm was operated as a partnership, the court not only entered judgment against the partnership, but also entered judgment against each partner individually. Furthermore, the court held that the partners were jointly and severally liable for the judgment. Under California law, partners can be held “jointly and severally” liable. See Cal. Corp. Code § 16306(a). That means that a creditor like Land O’Lakes can sue just one of the partners — the partner of the creditor’s choice — to recover the whole amount of the debt. Practically speaking, this means that the partner with the most assets is generally the one who ends up paying the debt, obligation and/or judgment. As an example, maybe David Valadao has a $1 million in a savings account at the local bank. If that were the case, then Land O’Lakes could satisfy the whole judgment against David, leaving David to sue the other family members for their share of the debt.

As can be seen, the Triple V Dairy case provides a good example of why it is important to incorporate.

Contact San Diego Corporate Law Today

Aside from shielding personal assets, there are many other reasons to incorporate, and if you want further information, contact attorney Michael Leonard of San Diego Corporate Law. Mr. Leonard provides a full panoply of legal services for San Diego and California businesses including corporate entity formation and annual maintenance. Mr. Leonard has been named a “Rising Star” four years running by and “Best of the Bar” by the San Diego Business Journal. Mr. Leonard can be reached at (858) 483-9200 or via email. Like us on Facebook.

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