Why You Should Follow Corporate Formalities as a Limited Liability Company

Limited liability companies (LLCs) are becoming the “entities of choice” in small to medium size businesses owned by a limited number of members. LLCs are often preferred because of flow-through taxation, low registration costs, limited liability protection, minimal corporate formalities, and flexible membership. LLCs are often formed between family members, friends, or close business relationships with a history of trust. However, when the members are intimately familiar with each other, they may disregard corporate formalities and fail to abide by the requirements of the Illinois Limited Liability Company Act (the Act), or fail to follow the terms of the governing document (the Operating Agreement). This careless attitude towards following the rules acts as an unintentional sword of Damocles. When the sword falls, chaos reigns. 

When members become at odds with each other and litigation ensues, the court reviews whether the members acted in accordance with the Act and the Operating Agreement. A messy situation is created when members or managers fail to abide by the Act and the Operating Agreement. This can mitigate one of the most attractive features of the LLC, insulation from personal liability. Members put themselves at risk by leaving it up to a court  to determine what is fair and equitable under these circumstances. It is likely that none of the members will be satisfied by the court’s decision. 

When an LLC is not in compliance with the Act or Operating Agreement, disputes can arise between members, leading to disappointed expectations and large legal fees. It’s important that members of LLCs take a proactive approach to following the Act and the Operating Agreement. Members should contact competent legal counsel if they are unsure of what needs to be done under the Act or Operating Agreement. An ounce of prevention is worth a pound of cure, and this proactive approach will help lead to amicable resolution of business disputes.

Levin Ginsburg is a full-service law firm that can provide counsel on business dispute matters. If you have any questions, please contact Roenan Patt at rpatt@levinginsburg.com or 312-368-0100.