The Difference Between Limited & Unlimited Liability

One of the biggest decisions to make when starting a business is what type of entity to use, and one of the most important considerations is whether you, as the owner, have limited or unlimited liability. Knowing the difference and choosing the appropriate structure for your business can save your personal assets from business creditors.

When you organize your business as an entity with unlimited liability, all your personal assets could be on the line to satisfy any debts of the company. For example, if your business can't repay its loans or gets sued and found liable, you're on the hook if your company's assets aren't enough to cover the debt or damages. That means your personal bank accounts, investments, car or even your home could be taken. Entities with unlimited liability include sole proprietorships and general partnerships.

Limited liability entities, on the other hand, restrict the owner's liability for the debts and liabilities of the company to whatever has already been invested. For example, say you put $100,000 into a limited liability entity. If a creditor sues the company to recover money it loaned to the company, the creditor can only get the assets of the company. So, you could lose your $100,000 investment, but you couldn't lose any of your personal assets. Entities with limited liability include limited liability companies, limited liability partnerships and corporations, including S corporations.

Having a limited liability entity won't save your personal assets if you're the one who's responsible for the wrongdoing. For example, say you own a flower shop that you've incorporated and you work alongside several other employees. If one of your employees is out on a delivery and hits a pedestrian, your personal assets won't be taken if the pedestrian successfully sues the business, because you weren't personally responsible. However, if you're out doing the delivery and hit a pedestrian, the pedestrian can sue you as well as the company, which would make your personal assets available to satisfy the judgment.

A limited liability entity choice also won't protect you from any personal guarantees you've made on behalf of the company. For example, say you're starting out and need a bank loan for your new LLC. The bank requires that you personally guarantee the loan, because the lender is not convinced the LLC will be able to repay it. If the LLC goes under, you're liable for the debt. Even though the LLC is a limited liability entity, you personally guaranteed the loan, so you're on the hook for repayment.