Limited liability is the extent to which a company shareholder or director is financially responsible for their company’s debts.
To benefit from limited liability, a business must be incorporated at Companies House to become a private limited company (LTD), a public limited company (PLC) or a limited liability partnership (LLP).
Once it has been incorporated, the business becomes a separate legal entity from its owners. That means the finances and assets of the individual and the finances and assets of the company are completely separate.
If the company is sued or cannot pay its debts, the owners are only liable for the debt to the value of the money they have already invested in the business.
The clear separation between individuals and their companies is a pivotal aspect of corporate law.
In the case of limited companies, this means that shareholders can only be held liablefor company debts up to the value of their shares.
Directors cannot be held personally liable for company debts (unless they are shareholders, in which cases the rules already explained apply)
The same goes for legal threats. When a company is sued, it is the legal structure that is the company which is being sued, not the individuals involved.
The same rules apply for members of LLP’s (Limited Liability Partnerships) or Limited Partnerships.
Types of Limited Liability Companies
Private Limited Company (Ltd): This is likely the structure you’ll encounter most often. Your liability as a shareholder is limited to what you’ve paid (or agreed to pay) for your shares. If you’ve fully paid for your shares, your personal assets are safe from the company’s debts.
Public Limited Company (PLC): This is an expanded version of the Ltd, designed for larger enterprises. It’s similar, but you can trade shares publicly. Your liability as a shareholder is still limited to your investment or any unpaid amount on your shares.
Company Limited by Guarantee: You’ll often see charities and non-profits use this structure. As a member, you agree to chip in a fixed amount (usually just £1) if the company winds up. That’s the limit of your liability.
Limited Liability Partnership (LLP): If you’re in a professional service, you might consider this. As a partner, you’re not personally liable for debts beyond what you’ve put into the LLP. But be careful – you could still be on the hook for your own negligent acts.
However, do keep in mind that this protection isn’t absolute – it doesn’t cover instances of fraud or personal guarantees you might make.
What is a Limited Liability Company Agreement?
Also known as a shareholders’ agreement or an LLP agreement, a limited liability company agreement intends to formalise the relationship between shareholders or partners. It formalises what will happen when there are differing opinions about the direction the company will take, establishes how the business will be run and sets the ground rules for the relationship.
A simple way to think of a limited liability company agreement is as the terms & conditions for company directors.
Although similar to the Articles of Association in its content, the main difference is that the Articles of Association have to be made public, while the limited liability company agreement is a private contract between shareholders.
What is the Liability of a Limited Liability Company?
The basis of a limited liability company is that all debts incurred are the debts of the company and are not the responsibility of the shareholders or directors. In a company that’s limited by shares, the shareholders’ obligation is to pay the company for the shares they have. Once those shares have been paid for in full then no further money is payable.
In the case of a company that’s limited by guarantee, each guarantor will be liable for the company’s debts up to the value written into the Memorandum of Association, which is usually just £1.
The only way a director or shareholder can become liable for company debts over the value of their original shareholding holding or guarantee is where personal liability is imposed by the court. This can be the case in instances of wrongful or fraudulent trading.
Some creditors such as banks and other finance providers may ask directors to give personal guarantees for loans, overdrafts and a lease of premises. If the business does fail then the director will be obliged to pay those debts from their personal funds.
What’s the Extent of Protection?
So, how far does limited liability protection really go?
Your personal assets are generally safe from company debts. That means your home, savings, and personal belongings aren’t on the line.
This protection covers most contractual debts, loans, and legal claims against your company.
If you’re a director, your personal assets are typically protected for actions you’ve taken in good faith.
As a shareholder, your risk is usually limited to the amount you’ve invested or agreed to invest.
It’s a powerful shield, but it’s not impenetrable.
Exceptions to Limited Liability
You need to be aware of situations where this protection might not apply:
While limited liability offers substantial protection, it’s crucial you’re aware of specific actions that could lead to personal liability:
Personal Guarantees: If you’ve signed one for a business loan, you’re personally responsible for that debt.
Wrongful Trading: Continuing to trade when you know (or should know) the company can’t avoid insolvency can make you personally liable.
Fraud: Engaging in any fraudulent activities can pierce your liability shield.
Undervalued Asset Sales: Selling company assets below market value, especially to related parties, can be seen as trying to defraud creditors.
False Statements: Making misleading claims about the company’s financial status or prospects can result in personal liability.
Unlawful Dividends: Distributing dividends when the company lacks sufficient profits can make directors personally liable.
Overdrawn Director’s Loan Account: If you’ve taken more money out of the company than you’ve put in, you may be personally liable for the difference.
Health and Safety Breaches: Serious violations can lead to personal prosecution.
Understanding these exceptions is vital for protecting yourself and running your business responsibly. Remember, limited liability is a privilege that comes with significant responsibilities.
I can’t stress enough how important it is to understand these exceptions. They’re key to maintaining your protection and running your business responsibly. Remember, limited liability is a privilege, not a right, and it comes with responsibilities.
How can we help?
As a UK leader in limited liability company rescue, recovery or closure, we can provide you with the expert advice and practical assistance to support you as a director. Please call us on 0800 074 6757, or email info@companydebt.com.
