Can Debtors Come After the Owner of a S Corporation?

by Terry Masters
The shareholder liability shield helps investors keep money in their pockets even if the business goes bust.


Visage/Stockbyte/Getty Images

The most important thing for an owner of an S corporation to understand is that your corporation is the legal equivalent of a regular C corporation. All S corporations start out as C corporations when articles of incorporation are filed with a state business registrar. An S corporation has the same legal status and rights as a regular corporation; it just pays taxes differently. Ordinarily, S corporation shareholders are protected from responsibility for corporate actions under the same laws as any other corporation.

Independent Entity

Under the law, an S corporation is an independent entity that exists separately from its shareholders. The state corporation statute under which a corporation is formed gives the corporation the power to act as an individual, such as giving it the power to enter into contracts and hold property in its own name. A shareholder technically does not own the corporation; he owns shares of stock in the corporation. The corporation as an entity is responsible for the actions it takes regarding creditors and debtors.

Limited Liability

Corporation statutes also specifically limit the liability of shareholders for corporate actions. Conducting business through an S corporation means that any liability for normal business actions stops with the assets titled in the corporation's name. A creditor or debtor of the corporation who has a claim against the company based on an ordinary business transaction can sue the corporation for compensation but can't reach into the pockets of the shareholders. A plaintiff might name a shareholder personally in a lawsuit against the corporation, but as long as the underlying transaction falls under the ordinary scope of limited liability, the shareholder eventually will be dismissed from the suit.

Standard Exceptions

There are liability limitations, however. If you, as the owner of an S corporation, disregard the business formalities of the corporate entity by not keeping your personal and business matters separated or if you neglect to follow the procedural rules for running a corporation, a court might pierce the corporate veil. The term means the court holds that you weren't really running the corporation as a separate entity, so you should be responsible personally for business actions. Limited liability also can be disregarded in cases of fraud and intentional torts. As long as your S corporation deals with its creditors and debtors as a corporation within the ordinary scope of doing business, shareholders are protected from liability.

Personal Guarantees

Another circumstance that results in shareholders being held personally responsible for corporate transactions concerning debtors and creditors is when a shareholder personally guarantees a transaction. The S corporation format typically is used by nonpublic closely held corporations that may have only a handful of shareholders. Often, parties to a business transaction require one or more shareholders to pledge personal assets to ensure corporate performance because the corporation has insufficient assets in its own name. For example, if the corporation extends credit to customers that is backed by a bank that processes the credit transactions, the bank may require the personal guarantee of shareholders to indemnify it against debtor claims for misuse of identity information.

About the Author


Photo Credits

  • Visage/Stockbyte/Getty Images
bibliography-icon icon for annotation tool Cite this Article