Video - Business Risk

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Associate Dan Shea talks about the risks of doing business as yourself compared to a corporation. Watch

Transcript:

One of the major reasons people form corporations is to protect themselves from risk in business.

When you go into business you can hold yourself out to people as yourself, for example Annie Smith and she’s a plumber. That's kind of the default position; “hi I'm Annie hire me” and you give yourself a business name you can call yourself Extreme Awesome Plumbing for example, but it's still really you Annie Smith the person who's behind it. Or you can incorporate a business, you can register a corporation you can call it AS Plumbing Inc and you can do business through that.

So what's the difference? The difference is actually kind of profound when you incorporate you create a separate legal entity, so I'm a person, my friend Ryan behind the camera is also a person, but a corporation is something like that in law. A corporation can enter into contracts, it can sign leases, can own vehicles, can have bank accounts, it can do many of the things that a person can do. So when Annie Smith incorporates she creates a legal entity and she calls it AS Plumbing Inc.

Now there are risks associated with doing business as a plumber, you can mess something up, you could forget to install something crucial, you might be responsible for flooding a client’s basement causing thousands of dollars in damage. Lawyers are good at thinking up bad things that could possibly happen it's an occupational hazard of ours. It might not be anything so dramatic, you might simply finance your business through the bank and the business might not do as well as you hoped and the bank comes and calls the loan on you. There are risks associated with being a plumber.

Let's go back to Annie Smith the person, if she is a sole proprietor just doing business as herself then she can enter into contracts and Annie Smith would be personally liable for those contracts. The person whose home you flood or the bank that loaned you the money could sue you and if they sue you, Annie Smith personally they could have a claim against your assets as well and that's not a good position to be in. That’s one of the big risks on being a sole proprietor, its personal liability.

Contrast that to Annie Smith forming a corporation AS Plumbing Inc. In that scenario Annie Smith personally doesn't enter into any contracts. People contract with AS Plumbing Inc and they hire AS Plumbing Inc to do their plumbing and the bank loans money to AS Plumbing Inc. Annie is an owner or maybe even the only owner of the company, she might work for the company but she's NOT the company and if something goes wrong AS Plumbing Inc could be liable not necessarily Annie Smith because again she's the owner not the company itself. So that's the big difference, with a corporation there's what's called “limited liability.” Normally someone with a claim against a company wouldn't have any rights against the shareholders or the employees, their claim is limited to the company itself and that's called the corporate veil, think of it as a screen between the company and the owners. There are scenarios in which people can get around the corporate veil but they are a little bit beyond the scope of our topic today.

People ask what about partnerships? Well partnerships to be brief don't generally offer limited liability like corporations do and the reason is a partnership is not a separate entity the way a corporation is. A partnership is really just a bunch of people who come together for a common purpose and like a collection of sole proprietors. So if Annie forms a partnership with me and we call it “Annie & Dan's Plumbing” and we mess up someone's basement that person can make it personal claim against both Annie and me. Not only that partners are also usually liable for the acts of each other so even if I had nothing to do with messing up that basement and if I'm off messing up someone else's basement as a partner in Annie & Dan's Plumbing I could be responsible for what Annie did. So not only does a partnership generally not protect you from liability it can actually expose you to more liability. Partnerships have lots of advantages there are certainly valid reasons for forming them but limited liability is generally not one of them. There are exceptions to that and in British Columbia we have things called limited partnership and limited liability partnerships but those are fairly special cases and they are a bit beyond the scope of what we're talking about today.

There are ways of mitigating risk in partnerships, for instance the partners can enter into agreements between themselves to allocate risk, to indemnify each other but again that's also beyond the scope of what we're talking about today.

So if you are starting a business and thinking about incorporating or looking for advice into the different types of structures that are available please call FH&P Lawyers.