A corporation is a legal fiction that enables you to separate your personal and business affairs. Using a corporation provides a means of protecting personal assets from business creditors and may enable you to regulate your income and the amount of taxes you pay individually. A corporation is an attractive alternative to other business forms, such as a sole proprietorship or partnership, but certain legal requirements must be satisfied to obtain and maintain the advantages of incorporation.
Corporate assets must not be commingled with personal assets or applied for the personal benefit of the officers, directors, or shareholders of the corporation. Corporate income, unemployment compensation insurance, withholding, franchise, sales, and other tax returns must be filed and detailed records of the corporation’s business and financial activities must be maintained. In addition, shareholders must meet periodically to elect a board of directors which, in turn, elects the officers of the corporation and oversees management of the corporation’s affairs.
Some corporate requirements have been relaxed by statute. For example, shareholders and directors may act by unanimous written consent in lieu of holding actual meetings and certain corporations organized under the Illinois Close Corporation Act may be managed directly by the shareholders without election of a board. Nevertheless, the failure to maintain adequate records and to comply with legal formalities may produce catastrophic results. In such situations, the corporate entity may be disregarded, thereby rendering the shareholders personally liable for the debts of the corporation. In one situation, for example, an individual converted his sole proprietorship to a corporation. He failed to file annual reports with the Secretary of State and to notify his creditors of the change in his business form. Consequently, he was held personally liable to the corporation’s creditors when the corporation folded. In another situation, the corporate entity was disregarded because bank ledger cards showed the business entity as a proprietorship.
A failure to maintain adequate records also may create tax and financial problems. For example, a tax-free reorganization of a corporation may be disqualified unless the corporate records reflect the adoption of a plan of reorganization. If a corporation is accumulating earnings for the purpose of acquiring new facilities or additional equipment, the records should be carefully documented with detailed entries in board minutes and resolutions, files, notes, etc. to avoid imposition of the accumulated earnings tax and related penalties for excess accumulations. Corporate tax deductions taken for salaries paid to officers and to key employees should be supported by board resolutions.
Your records should reflect all major transactions of your corporation, including, but not limited to, the election of officers or directors, adoption of employee benefit plans, contributions made to such plans, purchases or sales of corporate assets and approval of all leases, loan documents, and other contracts executed by the officers on behalf of the corporation. If you would like more information regarding these matters, or assistance in performing a records audit, please do not hesitate to telephone us.