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Lawsuits and Judgments for Each Business Structure

Legal proceedings can be very intimidating for businesses, especially for those who are unprepared. A lawsuit and a settlement or judgment looks slightly different for each business structure. It will also vary depending on the nature of the claim, whether you have insurance, and who is asserting the lawsuit.

Planning ahead can save you and your business from having to file bankruptcy in the future. Knowing just how a lawsuit will play out in each business type will help you determine what legal structure will work best for your situation.

The General Outline of a Lawsuit

No matter what type of business structure you have, the general outline of litigation remains the same. Most lawsuits will involve the following steps after the claim is filed with the court:

  • You must answer the petition or complaint – Once you receive notice that a lawsuit has started, you must respond to the initial claim with the court. You will generally have between 20 and 30 days to answer, but you may be able to get an extension in some circumstances. If you do not already have an attorney on call, it is a good idea to connect with a litigation lawyer who can help you with the particular claim you are facing.
  • Start an investigation and discovery – The next step in the litigation process is to do an investigation. While you can do some initial research and digging before you answer the complaint or petition (and you should!), you will use specific procedures set out by the court in which the lawsuit is pending to gather additional information. Much of this process is focused on getting information and data from the other person involved in the suit, but it could also include doing your own independent investigation and getting experts to help with your case as well. Your lawyer will do most of this work for you, but you will need to provide information to make this process run smoothly.
  • Prepare for your day in court – While you are going through the discovery process, your attorney will also be prepping for trial. Getting ready for court can take up a considerable amount of time and effort, and your lawyer should be preparing for court from the date that you answer your petition. The time that you spend in court can vary dramatically. Some cases will last weeks or even months, while others can be concluded in just a few hours. Your attorney will be able to tell you how long he or she thinks you will need to present your defense in court.
  • Negotiate, negotiate, negotiate – You can settle a lawsuit at any point in the litigation process. Cases become increasingly likely to settle as the date of the trial approaches, both because actually going to court is expensive and because that is when the parties know the most about the facts of the case and the law that applies to it.

When Does the Type of Business Structure You Have Come into Play?

Lawsuits only affect business structures differently after a plaintiff gets a judgment. If you win your case and do not owe any money, then the type of business structure you have will not make much difference.

However, because upwards of 90% of cases settle, there is a good chance that once a case starts, your company may have to pay something to conclude the litigation. Of course, paying attorneys’ fees to defend a lawsuit can take a severe financial toll on some businesses. How that affects you personally will depend on the type of business structure that you have.

Lawsuits in Sole Proprietorships and Partnerships

Most small businesses that are run by just one or two people are sole proprietorships. In fact, solo companies are the most common business structure in the United States; there are 23 million sole proprietorships in the United States. In comparison, there are just 1.7 million traditional corporations. Partnerships are less common than sole proprietorships, but there are still roughly 7.4 million of these businesses throughout the United States.

This stark difference between the number of solo businesses and partnerships compared to corporations is, in large part, because sole proprietorships and partnerships take virtually no effort to form. You do not even need to pick a new name for your business. In fact, some business owners who run sole proprietorships think of their venture as more of a hobby than a real company. However, just because you think of your business as a hobby does not shield you from legal liability.

Liability for Sole Proprietorships

From a legal perspective, you and your sole proprietorship are one in the same. This is true even though you may have different bank accounts or even operate under a different name. Nothing is protecting your personal assets from your business debts or liabilities. That means that if your business gets sued, everything you own is at risk. It also means that it is particularly important to know and understand the risks associated with your type of business.

The type of business that you operate will dictate what kind of risks are important for your company. For example, a venture that helps people repair and maintain their vehicles will have very different risks compared to someone who provides consulting work for engineering projects.

To determine the potential legal exposure for your business, think about the various ways that someone could be physically or financially harmed by what you are doing, as those are the most common reasons that lawsuits will begin. Some examples include:

  • being injured on your property,
  • injuries from inadequate or faulty work,
  • mistakes in final products that result in injuries,
  • contracts that cannot be performed or completed as promised,
  • property or physical damage caused by your products, or
  • miscommunication that results in payment or contract disputes.

Every company is different. What may be a big concern for your industry may not be an issue for other business owners.

Lawsuits and Judgments for Sole Proprietorships

Once you determine that a suit may be in your future, it is a good idea to talk to an attorney about your exposure. Defending a lawsuit can be very expensive, but if you are able to stop the suit before it happens by negotiating with the potential plaintiff, then that can save you considerable time and money in the long run.

If you lose a lawsuit and the plaintiff gets a judgment against you, keep in mind that it will affect more than just your business—it will often take a toll on your personal assets as well. The same concept applies to partnerships. Once a plaintiff has a judgment, he or she may be able to garnish your bank account, seize assets, put liens on your real estate, and more. Each partner will face the same liability unless the lawsuit falls into some rare exceptions for fraud or misuse of funds.

Because lawsuits for sole proprietorships can force a business owner into bankruptcy, having business insurance to protect against a variety of situations that may affect your business is critical. When you are adequately insured, your insurance company will not only help pay the plaintiff for their losses or damage, but the insurance company will also usually pay for the cost of your defense as well.

Lawsuits for Limited Liability Businesses

There are two general types of limited liability businesses: limited liability companies (LLCs) and limited liability partnerships (LLPs). Limited partnerships (LPs) also fall under this umbrella, but they are not as common.

  • Limited Partnership (LP) – These companies have at least one general partner and other limited partners. The general partner has no limitation on liability; his or her role is just like it would be in a traditional partnership. However, the other partners are only liable up to the extent that they have invested in the partnership.
  • Limited Liability Partnership (LLP) – LLPs are just like limited partnerships, but they have one important difference: there are no general partners. That means that every partner is only potentially liable up to the amount that they invested in the partnership.
  • Limited Liability Company (LLC) – An LLC is a hybrid structure between a partnership or sole proprietorship and a corporation. It offers many of the benefits of a corporation without the taxation drawbacks. It is also generally cheaper to establish and maintain compared to a corporation.

These businesses require that you register with the state using articles of organization and meet specific guidelines to develop and maintain the company. Because of these additional procedural hoops, these business structures are far less common compared to general partnerships and sole proprietorships.

Liability for LPs, LLPs, and LLCs

Perhaps the most important benefit of having a limited liability business structure is that only the assets of the company are at risk if a plaintiff gets a judgment. As long as the company is maintained properly, liability for business actions and dealings should not affect your personal assets.

Lawsuits in Corporate Structures

There are two basic types of corporations: C corps and S corps. C corps are the more traditional corporate structure. They have their own separate tax rate and are accompanied by many filing and administrative requirements. They work well for large businesses but may make sense for some small businesses as well. As an alternative, many companies choose to operate as an S corp because it offers tax advantages and does not require as many corporate formalities.

Personal Liability While Acting as an Owner, Board Member, or Shareholder

You are generally liable for any actions you take that benefit you. However, when you are acting on behalf of the corporation, you will usually be insulated from liability as long as you are not in a partnership or sole proprietorship. The business will absorb your legal responsibilities in most circumstances.

This general rule does not apply to all circumstances, however. There are situations where you will be legally responsible for your actions regardless of what type of business structure you have. These situations will usually include the following:

  • Reckless or careless acts that harm others physically or financially
  • Deliberately taking illegal or immoral actions
  • Intentional discrimination or harassment
  • Fraud

In most situations that result in personal liability, you must have done something that you knew was illegal or unethical.

Get Help Choosing the Right Business Structure for You

Once you are ready to form your business, you can use LegalNature’s business formation documents to get you started. Every document is created by attorneys who know the laws in your particular state so you can be confident that they meet local filing requirements—and you do not have to involve an attorney in the process. Get started by visiting our legal documents section.