How do I protect my parent company from the liabilities of my subsidiary company?

Though generally a parent company is not liable for the debts of its subsidiary in the same way that a shareholder of a company is not liable for the debts of the company, there are some theories of recovery that plaintiffs use against companies in order to pierce the corporate veil and go after the assets of the parent company.

 

One theory is abuse of the corporate form.  Plaintiffs will claim that the company or corporation is so controlled as to be the alter ego or mere instrumentality of its stockholder, and should be disregarded in the interests of justice.   This control, or substantial domination, will be evaluated, depending on your jurisdiction, by looking at some or most of the following factors:

  • The parent and subsidiary have common directors or officers
  • The parent and subsidiary have common business departments
  • The parent and subsidiary file consolidated financial statements and tax returns
  • The parent company finances the subsidiary
  • The parent caused the incorporation of the subsidiary
  • The subsidiary operates with grossly inadequate capital
  • The parent company pays the salaries and other expense of the subsidiary
  • The subsidiary receives no business except that given to it by the parent
  • The parent uses the subsidiary’s property as its own
  • The daily operations of the two corporations are not kept separate
  • The subsidiary does not observe the basic corporate formalities, such as keeping separate books, and records and holding shareholder and board meetings

Thus, when business owners start new businesses using subsidiary corporations, they should make sure to do these simple things, in order to protect each business from the liabilities of the other

 

Example:

Jane and John want to expand their Soba Doughnuts shop, and start a Soba Bakery. There are probably some things that they can’t avoid, but others that the can.  They could make sure each business is adequately capitalized.  Have each company do their own marketing and advertising.  Make sure that each company pays its own employees.  Keep the daily operations of each company separate.  Observe the basic corporate formalities required for each, like separate books, records, and separate board meetings.  Make sure each business does its own taxes, and file separate returns.

 

Some business owners might be tempted to consolidate many of the above items in order to save money, but doing so may open each business to the liability of the other.  Contact your local counsel to figure out ways to save costs while still protecting each of your subsidiary business from each other’s liability.

 

Photo By: Moyan Brenn