In my practice I often meet with a lot other professionals in order to make sure I have the resources available to our clients when they need them. So, earlier this year I went met with Pat Knight, business lawyer extraordinaire. His practice Knight Business Law is located only blocks from us in Beautiful Plymouth, Minnesota. His focus is on small business so he shared a post about Small Business Corporate books and records and why it's so important to keep them up to date. It's a must read for any small business owner.
Five Reasons to Keep your Corporate Record Book Up-to-Date
You file your articles of incorporation (or articles of organization in the event of a limited liability company) and pay your filing fee with the Secretary of State. You now have a corporation and your administrative work is done - You can place your corporate formation documents on a shelf to collect dust while you focus on growing your business and making money, right? Not so fast. While maintaining and updating your corporate records can be tedious, it also can be essential to maintaining your limited liability shield, minimizing disputes between owners, minimizing taxes, and a host of other benefits.
The corporate record book is the primary vehicle for maintaining your corporate records. Typically, the corporate record book consists of a file or binder containing two general categories of information:
1. Formation documents, which may include:
a) Articles of incorporation
b) Certificate of incorporation
c) Incorporator’s action
d) First written action of the Board in lieu of meeting.
e) Subscription Agreement
g) Shareholder control agreement with buy-sell provisions, if applicable.
2. Ongoing minutes and actions of the corporation may include:
a) Minutes from annual meeting of Board or shareholders
b) Board resolutions authorizing a specific act of corporation, to include:
i. accepting a loan from shareholder;
ii. authorizing the issuance of additional shares;
iii. naming officers of the corpo ration;
iv. approving a strategic decision, such as sale of significant assets.
While the corporate record book may look complex, it is fairly easy to manage once a corporation is properly formed. Simply put, and at the very least, you should actively record minutes of meetings and resolutions of the Board and shareholders.
But the question remains: Why go through the trouble?
1. It is required by statute. While each state’s requirements are different, typically a corporation must make available its corporate record book, current for at least the previous three years, for inspection by a shareholder. For Minnesota, see generally Minn. Stat. §302A.461.
2. Minimize ownership disputes. Too often, particularly when multiple shareholders are involved, a dispute can arise as to whether a particular action was properly authorized by the corporation or, rather, was taken pursuant to the interests of an individual shareholder. For example, was a loan from a shareholder accepted as a loan to the Company or an equity investment? Did the Corporation properly authorize an increase in salary for the Chief Executive Officer? Once such issues arise, it can get very difficult in time and energy to resolve. The better practice is to get in the habit of recording, in writing and inserted in the corporate record book, such decisions taken by the company.
3. Minimize problems with the IRS. In the event of an audit or other inquiry by the IRS, your corporate record book may become an issue in order to substantiate your tax claims. For example, if there is a dispute as to whether a loan made by your corporation to a shareholder was properly treated as a loan or should be instead treated as income, proper documentation in the corporate record book could be determinative.
4. Facilitate Business transactions. If a corporation needs a loan, or generally wants to take any significant action in which a third party is relying on corporate representations, the corporate record book often will be requested. For example, in the event of a sale of company assets, the buyer may seek evidence of proper formation and a Board resolution authorizing the sale of those assets.
5. Preserving limited liability. Most importantly, observing corporate formalities preserves the limited liability shield offered by your corporation. Just because you form a corporation does not guarantee that you are immune from personal liability. If you run the corporation as your alter ego and not as a corporate entity, your corporate limited liability shield may be “pierced,” subjecting you to personal liability. Among the many indications evaluated in piercing the corporate veil is the formality of the corporate record book.
Bottom line. Keep your corporate record book up to date. If your corporate record book is a mess, then hire an attorney to spend a couple of hours getting it in order. The benefit will far outweigh the cost and you can then get back to growing your business and making money.