Shareholders of an S Corporation have limited legal liability.
Generally, a shareholder is liable for the debts and liabilities of the corporation to the extent of his or her investment. Personal assets usually are not at risk. Exceptions include:
The shareholder personally guarantees a business debt.
A court finds that the corporate form is a sham. The corporate form may be found to be a sham if:
Corporate formalities have not been followed;
The corporation is thinly capitalized (it must have sufficient assets so that it has a reasonable chance of success); or
Shareholders have commingled corporate assets with personal assets.
Officers, directors, employees, and agents of the corporation may be held personally responsible for liabilities arising out of their services to the corporation. The corporation may indemnify its officers, directors, employees, and agents for costs and expenses incurred as a result of such liabilities.
Also, the corporation may buy insurance covering its officers, directors, employees, and agents for liabilities arising out of their services to the corporation.
If the business poses a threat of personal injury or property damage, limited liability may be important. However, adequate business insurance is essential to protect the business from overwhelming legal liabilities resulting from personal injury or property damage.