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“Avoiding the Pierce” How to Avoid Piercing the Veil as a Small Business Owner

Date February 7, 2024

Comments3

“Avoiding the Pierce” How to Avoid Piercing the Veil as a Small Business Owner

Introduction

Congratulations! You have successfully set up a small business and have moved into the operational phase. Being the wise and shrewd businessperson that you are, you have set up your business as a Limited Liability Company (LLC) to ensure personal liability protection.

By setting up as an LLC, you understand that having personal liability protection is vital to a smaller business because unfortunately, you are not a “little big business.” You understand that as a small business, you are subject to lower sales, smaller assets, and fewer employees compared to your larger counterparts.

In addition, you know that external forces such as changes in government regulations, tax laws, and labor and interest rates affect a greater percentage of expenses for small businesses than they do for large businesses. All this is to say, that as a small business owner, the window for mistakes or misjudgments can be deadly.

But, setting up your business as an LLC is a silver lining of sorts for a small business owner like yourself. One of the largest advantages of an LLC is that the government views it as a completely separate entity from the business owner. This distinction protects the owner from any personal liability should the business encounter legal troubles in the form of a lawsuit or financial troubles in the form of debt collectors.

With that being said, the limited liability super-power of the LLC has a kryptonite that all small business owners should be aware of, and it’s called “piercing the corporate veil.” But what exactly is “piercing?”

“Piercing the Corporate Veil”

In the most plain terms, “piercing the corporate veil” is what happens any time a court holds a business owner or managing member legally or financially responsible for the company’s actions. The concept of “piercing” can be very confusing but if we focus on the idea behind a corporate veil, the meaning of “piercing” becomes more clear. The idea behind the corporate veil is to keep any business type that provides limited liability to its owners completely separate from the people who own and manage it.

As briefly mentioned above, keeping the business separate from the owners ensures that the owners’ personal assets can’t be used to satisfy business debts and liabilities. When this veil that keeps things separate is broken, then owners become subject to the liability they were previously protected from.

If this is still a little bit confusing, let’s think about “piercing” another way. Let’s say that there was a village with a giant wall separating and protecting it from a raging river. One day, the curious people of the village begin excavation on the giant wall and accidentally create a giant crack. The wall begins to crack more and more as the river water begins to penetrate. Eventually, the wall breaks completely and the village is flooded. Here, the village represents the owners of limited liability businesses, the wall represents the corporate veil, and the river represents any financial or legal liability.

In our scenario, the wall protected the village until the villagers created a crack that made the wall break and caused the river to flood the village. In “piercing”, the veil protects the owners from liability, but once the owners begin to mess with the veil, it can break and the owner can be held liable now that the veil is gone. But what factors open up a business owner to “piercing?”

Common Factors that Open a Business Owner up to “Piercing” and How to Avoid Them

While there is no perfect set of factors that courts use to decide whether to “pierce the corporate veil”, there are three common factors that courts refer to over and over again when analyzing a “piercing” case; comingling, failure to undertake necessary formalities, and failure to ensure adequate business capitalization.

The first factor is the comingling of business and personal assets. Comingling may arise when a business owner creates an LLC but fails to create a separate checking account for the business and continues operating out of the same checking account for personal and business affairs. Comingling may even happen when the business accepts payments in the owner’s name or the owner pays personal bills from a business checking account.

The best way to avoid this factor is to make sure you are keeping your business assets separate from the assets of the owners. Have a business checking account and business credit card and only use these for business expenses.

The second factor is the failure to undertake necessary formalities. Simply failing to keep up with the documents and records of the business and failing to file annual reports and filings could fall into this factor.

To avoid this factor a business owner should ensure they are undertaking the formalities required by their state. Recommended formalities for an LLC include creating and regularly updating an operating agreement, issuing membership certificates to owners, and holding both initial and annual meetings of the members of the LLC. To best stay in compliance with the formalities it is recommended to take a look at your state’s government website.

The third factor is the failure to ensure adequate business capitalization. This factor is especially important for small business owners who as previously mentioned struggle to have as much capital as larger businesses. This factor can occur if a court determines that the company didn’t have enough funds to be truly separate from the owner and stand on its own.

To avoid this factor it’s extremely important to be honest about the company’s profitability upfront and attempt to borrow funds if possible to ensure the company is adequately capitalized.

Conclusion

As a small business owner, you constantly climb an upward hill to reach success. Unfortunately, “piercing the corporate veil” doesn’t make the hill any easier to climb, but hopefully, this post can help you avoid the common “piercing” factors that can land you in hot water.

Sources:

https://www.sba.gov/business-guide/launch-your-business/choose-business-structure#:~:text=LLCs%20protect%20you%20from%20personal,income%20without%20facing%20corporate%20taxes.

https://www.daleeke.com/blog/2023/03/3-reasons-why-many-small-business-owners-form-llcs/

https://hbr.org/1981/07/a-small-business-is-not-a-little-big-business

https://www.lanelaw.com/business-debt-relief/blog/piercing-the-corporate-veil-how-business-debts-liabilities-can-become-your-personal-problem

https://www.sba.gov/business-guide/launch-your-business/choose-business-structure#:~:text=LLCs%20protect%20you%20from%20personal,income%20without%20facing%20corporate%20taxes.

https://www.wolterskluwer.com/en/expert-insights/how-to-avoid-piercing-the-corporate-veil

Image Sources:

Image 1: https://tqdlaw.com/piercing-the-corporate-veil-when-your-llc-or-corporation-does-not-protect-you-from-personal-liability/.

Image 2: https://brownandblaier.com/blog/startup-llc-c-corporation-simplified/

Image 3: https://www.legalzoom.com/articles/piercing-the-corporate-veil-understanding-the-limits-of-llc-protection

Image 4: https://www.istockphoto.com/vector/dam-broken-gm1330519247-413909398

Image 5: https://www.clio.com/blog/commingling-funds/

Image 6: https://www.dummies.com/article/home-auto-hobbies/home-improvement-appliances/cleaning-organization/8-tips-for-organizing-your-paperwork-142969/

Image 7: https://www.patriotsoftware.com/blog/accounting/what-is-capital-your-small-business-accounting-guide/

Image 8: https://www.mbm-law.net/insights/importance-of-an-operating-agreement/

“Anything But Colorblind” The Legal Barriers That Have Historically Prevented Black Inventors from Obtaining Patent Protection

Date March 27, 2023

Posted by bxg5383

Comments2

“Anything But Colorblind” The Legal Barriers that Have Historically Prevented Black Inventors from Obtaining Patent Protection

Introduction

It should go without saying that the life of an entrepreneur is one filled with difficult legal considerations. In addition to tackling legal issues such as entity choice and raising capital, entrepreneurs have to think about how to protect any intellectual property associated with their business. For those entrepreneurs who are in the unique position of being inventors as well, seeking patent protection for their inventions often brings more problems than solutions.

According to the United States Patent and Trademark Office (USPTO), a patent for an invention is defined as “the grant of a property right to the inventor.” Essentially, with patent protection, the owner of the patent has a twenty-year exclusive monopoly on the right to make, use, and sell their invention. Out of the three federally registerable types of intellectual property, patent protection is often regarded as the most difficult to obtain, most expensive, and lasts the least amount of time. For the Black inventor, obtaining patent protection from the USPTO is made all the more burdensome because of the scars of legal barriers that have served to historically prevent them from receiving a patent, resulting in a major gap between race and patents. To truly understand this phenomenon in its entirety, we must look to the past and examine the legal history of Black inventors and the U.S. patent system.

The Patent Act of 1790

Serving as the first patent act passed by congress, the Patent Act of 1790 is considered by all accounts to be revolutionary because of its encouragement of innovation and industrial progress. The Act empowered the Attorney General and secretaries of war and state to grant patents of up to fourteen years for inventions that were “sufficiently useful and important.” Admittedly, the Patent Act of 1790 was rather socially progressive as well because it did not explicitly limit prospective patent applicants based on their race, age, religion, or nation of origin in the same way that other laws of the time did.

Unfortunately, for Black people, it really didn’t matter how socially progressive the Patent Act was, because the patent system and all of the rights and provisions granted in the Constitution were not available to the enslaved because they were not considered American citizens. In 1790, 92.14% percent of the Black population lived in slavery, and thus could not obtain patents at all, emphasizing that the Patent Act of 1790 was not made for the benefit of Black inventors.

Black Inventors in Early America

Being unable to obtain patent protection under the Patent Act of 1790, did not stop enslaved inventors from making inventions. In fact, there is evidence that both freed and enslaved Black people created inventions that greatly benefitted American society, even if white slave masters and other white men took credit for it.

For example, in 1825, an Alabama slave named Hezekiah invented a machine for cleaning cotton. In 1839, a North Carolina slave named Stephen Slade invented a method of curing tobacco that enabled the creation of the modern cigarette. It has also been suggested that the famous cotton gin was conceived by an enslaved man named Sam, but was patented by Eli Whitney, who became revered as a great American inventor. Some freed Blacks found great success with their inventions, such as Thomas Jenkins, who became the first Black inventor to receive a patent for his dry-cleaning methods in 1821, and Norbert Rilleux, who received an incredible four patents pertaining to his sugar refining methods.

Even with the helpful inventions of Black inventors such as Jenkins and Rilleux, among many others, the U.S. patent system remained closed off to enslaved Blacks, and patents were scarcely obtainable for the small percentage of freed Blacks. Things only became worse in 1857 when the Supreme Court handed down the infamous Dred Scott decision and completely prevented Black inventors from obtaining patents.

Impact of the Dred Scott Decision

It is without a doubt, that the 1857 Dred Scott decision is one of the most heinous and crippling decisions on Blacks handed down by the Supreme Court. The facts of the case are as follows: Dred Scott was a slave in Missouri who resided in Illinois, a free state, from 1833 to 1843. Upon his return to Missouri, Scott filed suit in Missouri court for his freedom, claiming that his residence in free territory as a result of the Missouri Compromise of 1820, made him a free man. After losing his suit in Missouri court, Scott refiled in federal court, and the case eventually reached the Supreme Court. In a 7-2 decision, the majority held that a Black person whose ancestors were imported into the United States and sold as slaves, whether enslaved or free, could not be an American citizen, and therefore did not have standing to sue in federal court.

Without the protection of citizenship, freed Blacks were denied any rights and protections under the Constitution and were considered nothing more than property. The denial of citizenship was especially felt by Black inventors who could no longer apply at all for patents because of a 1793 revision to the Patent Act of 1790 that required an oath of U.S. citizenship by the inventor in order to apply. As a result of the Dred Scott decision, the patent system was closed off entirely to Black inventors for eleven years until the adoption of the 14^th Amendment, which granted citizenship rights to anyone born in the United States.

Recent Studies Show Major Race-Patent Gap

Even though formal barriers to the patent system were removed with the abolition of slavery and the passage of the 14th Amendment, studies show the scars of the past are still effecting Black inventors today. In a recent study conducted on the race-patent gap, Michigan State University researchers, found that from 1976 to 2008, Black inventors were granted six patents per 1 million people, compared to 235 patents per 1 million for all U.S. inventors. In addition to the alarming race-patent gap disparity, the lack of Black intellectual property attorneys is also eye-opening. According to a 2017 study conducted by the American Intellectual Property Law Association, fewer than 2% of IP lawyers were Black. Lastly, a study conducted by the Information Technology and Innovation Foundation found Blacks, while making up 13% of the U.S.’s native born-population, comprised less than 1% of the U.S. born-inventors.

All three of these statistics demonstrate that the legal barriers of the past have continued to stand in the way of Black inventors and their accessibility to not only the patent system, but intellectual property law as a whole. In order to help to rebuild the Black inventor, we must first take a look at our history and come to terms with our nation’s large ignorance of the Black inventor, and the legal barriers used to bar them from obtaining protection for their inventions.

Sources:

https://www.americanbar.org/groups/intellectual_property_law/publications/landslide/2018-19/march-april/colorblind-patent-system-black-inventors/

https://www.bloomberglaw.com/bloomberglawnews/ip-law/X1LES00C000000?bna_news_filter=ip-law#jcite

https://www.cov.com/-/media/files/corporate/publications/2018/06/closing_diversity_gaps_in_innovation_gender_race_and_income_disparities_in_patenting_and_commercialization_of_inventions.pdf

https://www.dbllaw.com/blog/2020/05/26/intellectual-property-and-the-importance-of-trade-secrets/

https://www.harnessip.com/blog/2020/06/19/a-brief-history-of-patents-slavery-in-honor-of-juneteenth/

https://lawreview.law.ucdavis.edu/issues/40/3/distributive-justice-and-ip/DavisVol40No3_Aoki.pdf?xid=PS_smithsonian

https://www.smithsonianmag.com/innovation/with-patents-or-without-black-inventors-reshaped-american-industry-180962201/

https://www.smithsonianmag.com/smithsonian-institution/tearing-down-barriers-black-inventors-honoring-historic-breakthroughs-180979652/

https://tpinsights.com/can-new-patent-policies-reduce-barriers-for-black-innovators/

Image Sources:

Image 1: https://www.csis.org/blogs/perspectives-innovation/rai-explainer-patents

Image 2: https://www.edn.com/us-patent-system-forms-april-10-1790/

Image 3: https://www.bloomberglaw.com/bloomberglawnews/ip-law/X1LES00C000000?bna_news_filter=ip-law#jcite

Image 4: https://www.newyorker.com/news/news-desk/dred-waiting-for-the-supreme-court

Image 5: https://aibusiness.com/responsible-ai/influential-business-group-calls-on-congress-to-modernize-ip-laws

“Tone down the Black” Tackling Implicit Bias in obtaining Venture Capital for the Black Entrepreneur

Date February 3, 2023

Posted by bxg5383

Comments3

“Tone down the Black” Tackling Implicit Bias in Obtaining Venture Capital for the Black Entrepreneur

In the world of entrepreneurship, the ability to secure funding is pivotal to having a successful startup phase. Obtaining funding can be done in many different ways, but arguably the most common way to obtain funding particularly during the startup phase of a business is through Venture Capital.

The concept of Venture Capital(VC) is, at its core, when a business seeks an investment in their company, during the startup phase in exchange for equity or stock in the company(think Shark-Tank). While risky, Venture Capital is beneficial for businesses that can’t easily access loans from banks or enter into capital markets directly(https://www.svb.com/startup-insights/vc-relations/what-is-venture-capital). For many entrepreneurs, VC serves as a critical source of funding, but for the Black entrepreneur who already faces various challenges in the startup phase, securing VC is extremely difficult because of implicit bias in investment decisions. But what exactly is implicit bias?

Implicit Bias During the Pitch Phase

Implicit bias can be defined as a form of bias that occurs automatically and unintentionally, that nevertheless effects judgments, decisions, and behaviors (https://diversity.nih.gov/sociocultural-factors/implicit-bias). Due to its “under the radar” nature, implicit bias easily sneaks its way into society through microaggressions, seemingly normal yet veiled instances of racism that occur every day.

Unfortunately, microaggressions and implicit bias are extremely prevalent challenges faced by the black Entrepreneur in obtaining VC, particularly during the “pitch phase.” In July 2022, People Of Color In Tech(https://peopleofcolorintech.com/interview/dont-use-the-word-minority-in-your-deck-poc-founders-share-their-vc-horror-stories), interviewed one first-time Black entrepreneur who recalled her experience with a white investor, stating he suggested she “try not to use the word minority, and instead use ‘underprivileged’ or ‘underserved,’ because if you say minority, investors will make certain assumptions.” In a separate Seattle Times article (https://www.seattletimes.com/business/black-startup-founders-say-venture-capitalists-are-racist-but-the-law-protects-them/), one Black tech startup founder said a Venture Capitalist had asked them to “tone down the Black in the business.”

Impact of Implicit Bias by the Numbers

In some cases, Black entrepreneurs have become so desperate for funding that they’ve resorted to bringing along white friends to pitch meetings in order to make the investor more comfortable, even if the friend has no affiliation with the company. Sadly, even this trend does not eliminate the fact that Black entrepreneurs face almost insurmountable pressure to obtain VC in the face of implicit bias.

In 2022, out of 215.9 billion dollars in VC allocated in the U.S., Black founders raised an estimated 2.254 billion, a disgraceful 1% of funding. Additionally over the past 5 years, Black entrepreneurs have raised just 1/3 as much VC as their white counterparts have raised.

Given this blatant racial discrimination, one would believe that Black entrepreneurs would seek legal justice through the court system to correct this horrible wrong, but Venture Capitalists (who are overwhelmingly white males), are unfortunately not subject to any specific laws regarding discrimination. In fact under current legislation, Black entrepreneurs can’t file discrimination lawsuits without having concrete evidence that they were racially discriminated against.

How Did We Get Here?

This extreme burden of proof on the plaintiff stems from the 2020 decision handed down by a 9-0 majority in the Supreme Court case Comcast Corp. v. National Association of African American-Owned Media. Without getting too legalistic, here is a brief summary: In 2016, Entertainment Studios founder Byron Allen filed a suit against Comcast Corp alleging that Comcast had racially discriminated against him in refusing to carry his network channels. Allen sued under §1981 of the Civil Rights Act of 1866, which prohibits discrimination on the basis of race, color, and ethnicity when making and enforcing contracts. In siding with Comcast, the Supreme Court decided that because Allen could not concretely prove there was racial bias in Comcast’s decision to not carry his channels, he was not entitled to protection under §1981.

According to Erwin Chemerinsky, a lawyer for the National Association of African American-Owned Media, the ruling leaves far too many loopholes for Venture Capitalists, and hardly any legal protection against discrimination(https://bleumag.com/2020/07/27/venture-capitalists-implicit-biases-cannot-be-challenged-in-court/). In imposing a higher burden of proof, the Supreme Court has largely ignored the idea that racial conduct is a result of implicit bias rather than outright racial conduct. In fact, the Supreme Court decision has made it clear to entrepreneurs alleging racial discrimination that without a “smoking gun” of concrete evidence of racial discrimination their claim will not be supported in court. Without an improbable statement from an investor stating that “I discriminated against you and I’m not investing with you because of your race,” it’s almost impossible for a Black entrepreneur to seek justice for discrimination in courts.

Solutions Looking Forward

After Allen, is there any way to tackle implicit bias in VC? Perhaps the answer lies in increasing Black representation at the senior levels of investment firms. In a 2018 survey of the top 102 Venture Capital firms, out of 713 senior-level executives, only 7 were Black men, and 0 were Black women. Increased Black representation in investment decisions would make a major impact; it would lead to more Black entrepreneurs finding funding opportunities with those investors who look like them.

Another solution is providing more education on the dangers of implicit bias in VC investment decisions, increasing awareness to unethical business practices and leading to more diverse investments without the blinders of bias. In fact, most research shows that in later stages of funding as investors learn more about the company their initial biases about Black entrepreneurs reverse, leading to a dissipated financial gap from the startup phase.

One final solution would be more challenges to the Supreme Court’s ruling in Allen, hopefully leading to a legislative overhaul that will give more protection to Black entrepreneurs trying to obtain VC. Still, two things are clear: a strong and impactful change must be made if Black entrepreneurs are to gain equality in obtaining Venture Capital and, by all accounts, this change is long overdue.

Sources:

https://bleumag.com/2020/07/27/venture-capitalists-implicit-biases-cannot-be-challenged-in-court/

https://www.bloomberg.com/news/articles/2022-12-05/black-startups-get-one-third-as-much-venture-capital-as-other-firms

https://civilrights.org/2020/03/23/u-s-supreme-court-rolls-back-historic-civil-rights-protections-in-comcast-ruling/

https://diversity.nih.gov/sociocultural-factors/implicit-bias

https://www.latimes.com/politics/story/2020-03-23/supreme-court-limits-race-bias-lawsuits-in-setback-for-los-angeles-tv-producer

https://peopleofcolorintech.com/interview/dont-use-the-word-minority-in-your-deck-poc-founders-share-their-vc-horror-stories/

https://www.seattletimes.com/business/black-startup-founders-say-venture-capitalists-are-racist-but-the-law-protects-them/

https://www.svb.com/startup-insights/vc-relations/what-is-venture-capital

https://www.washingtonpost.com/technology/2020/06/10/racial-gap-vc-firms/

Photo Sources:

Image 1: https://www.entrepreneur.com/business-news/how-entrepreneurs-can-address-unconscious-bias/352071