This will be the opening post in a series on corporate law for our blog. Over the course of my practice I have had innumerable clients come to me for advice after their business has run into some sort of trouble, be it defaulted loans or arguments between partners (one often leads to the other). I was recently discussing just this issue with friend of mine.
My friend was telling me his CPA charged him $800 to set up a company, for which it appears she only filed the articles of organization and, as far as I could tell, little else. Needless to say, the members of the company had a falling out and are no longer talking. The company owes a considerable amount of debt and one of the members is simply ignoring it.
The company owns some assets, but because there was no business planning and no operating agreement, the assets are sitting in suspended animation (these are physical assets) and my friend cannot effectuate the transfer of this asset to pay down the debt owed by the company.
He is stuck with the basics of Michigan’s Limited Liability law, which requires court intervention for almost any act which would transfer property out of the company. As I was explaining to him about the issues surrounding the piercing of the corporate veil he told me that the CPA he used closed the business for him for another $500. As he told me this I was able to pull out my phone and show him that the State of Michigan still considered the business active and in good standing, to dissolution document was filed.
This trend is a depressingly recurrent in my practice; a client comes to me after starting their business with the assistance of a CPA or other individual when something goes wrong. I normally ask them why they went to a CPA or whoever else they went to instead of a lawyer, the answer is invariably one of cost. This is one of the worst reasons I can think of, most business set-ups would only cost $500 to $1000 for an attorney to prepare. The most important thing you are buying for that price is piece of mind and an explanation of what everything means and a referral to a CPA who will not attempt to practice law.
In Michigan it is illegal to practice law without a license. MCL 600.916. Specifically,
(1) A person shall not practice law or engage in the law business, shall not in any manner whatsoever lead others to believe that he or she is authorized to practice law or to engage in the law business, and shall not in any manner whatsoever represent or designate himself or herself as an attorney and counselor, attorney at law, or lawyer, unless the person is regularly licensed and authorized to practice law in this state. A person who violates this section is guilty of contempt of the supreme court and of the circuit court of the county in which the violation occurred, and upon conviction is punishable as provided by law. This section does not apply to a person who is duly licensed and authorized to practice law in another state while temporarily in this state and engaged in a particular matter. MCL 600.916.
While the statement “a person who violates this section is guilty of contempt” sounds very scary and impressive, most of the time all that happens is an order to halt the unauthorized practice and maybe a $500 fine. If the above example is any indication our CPA would still have made $800 if that fine were assessed and every unauthorized practice of law. Even if she was only caught one in ten times the unauthorized practice of law would have netted her $12,500. It is a lucrative business indeed.
The statute limited the practice of law to lawyers is a consumer protection law; it is not a law to protect lawyers. In my above example, protections could have been added to the operating agreement to provide for protection for both members and ensure that there would be no question of control of the business if one member were to have put additional equity into the business to ensure debts were paid. Normally, an operating agreement provides language that allows for the re-balancing of ownership interests if one party increases his or her capital contribution upon notice to the other member or members that such a contribution would be made.
At this point, my friend would have had over 90% control of the company and the operating agreement would have granted him super-majority control of the company allowing him to alienate (sell) property to dispose of debts of the company. This would have easily addressed the issues we were discussing the other day. He has already paid down thousands of dollars of debt and there is still more, but unfortunately he cannot sell the assets of the company. The only way he will be able to sell the assets of the company at this point is to either wait for a creditor to sue the company (and probably him too) or sue his partner.
Neither of the lawsuit options are particularly appealing. Both options will likely cost him personally much more than the original cost of having an attorney set up his business, and it is possible he will have to defend himself from the possibility of an attempt to pierce the corporate veil and a judgement against him personally.
The legislature’s intent was to truly protect the people of our State from the headaches and costs that are associated with this sort of issue. If there should be one take home from this blog entry it is that retaining an attorney to set up your business is always cheaper than having major issues down the line which almost certainly will entail the incurring substantially greater costs. This is true even if the quoted cost is higher than $500 to $1000, normally I quote a higher cost if there is some special issue or if the needs of the business are greater than the traditional small business.
As always, Hewson and Van Hellemont, P.C. and Tim Kaufmann stand ready to assist you in any and all corporate issues. This entry is available as a podcast and the mp3 link is available here.