Limited liability is a legal status in which a person's financial liability
is limited to a fixed sum, most commonly the value of a person's investment in a corporation, company or partnership. If a company that provides limited liability to its investors is sued, then the
A plaintiff ( Π in legal shorthand) is the party who initiates a lawsuit (also known as an ''action'') before a court. By doing so, the plaintiff seeks a legal remedy. If this search is successful, the court will issue judgment in favor of the ...
s are generally entitled to collect only against the assets of the company, not the assets of its shareholders or other investors.
in a corporation or limited liability company
is not personally liable for any of the debts of the company, other than for the amount already invested in the company and for any unpaid amount on the shares in the company, if any, except under special and rare circumstances permitting "
piercing the corporate veil
Piercing the corporate veil or lifting the corporate veil is a legal decision to treat the rights or duties of a corporation as the rights or liabilities of its shareholders. Usually a corporation is treated as a separate legal person, which is s ...
." The same is true for the members of a
limited liability partnership
A limited liability partnership (LLP) is a partnership in which some or all partners (depending on the jurisdiction) have limited liabilities. It therefore can exhibit elements of partnerships and corporations. In an LLP, each partner is not ...
and the limited partners in a
A limited partnership (LP) is a form of partnership similar to a general partnership except that while a general partnership must have at least two general partners (GPs), a limited partnership must have at least one GP and at least one limited ...
. By contrast, sole proprietors
and partners in general partnerships
are each liable for all the debts of the business (unlimited liability).
Although a shareholder's liability for the company's actions is limited, the shareholders may still be liable for their own acts. For example, the directors of small companies (who are frequently also shareholders) are often required to give personal guarantee
s of the company's debts to those lending to the company. They will then be liable for those debts that the company cannot pay, although the other shareholders will not be so liable. This is known as co-signing. A shareholder who is also an employee of the corporation may be personally liable for actions the employee takes in that capacity on behalf of the corporation, in particular torts committed within the scope of employment.
Limited liability for shareholders for ''contracts'' entered by the corporation is not controversial because this could and probably would be agreed to by both parties to the contract.
However, limited liability for shareholders for ''torts'' (or harms not agreed to in advance) is controversial because of concerns that such limited liability could lead to excessive risk taking by companies and more negative externalities (i.e., more harm to third parties) than would be produced in the absence of limited liability.
According to one estimate, negative corporate externalities on an annual basis are equal to between 5 and 20 percent of U.S. GDP.
An issue in liability
exposure is whether the assets of a parent entity
and the sole owner need to be subject to the subsidiary’s liabilities, when the
A subsidiary, subsidiary company or daughter company is a company owned or controlled by another company, which is called the parent company or holding company. Two or more subsidiaries that either belong to the same parent company or having a sam ...
In accounting, insolvency is the state of being unable to pay the debts, by a person or company (debtor), at maturity; those in a state of insolvency are said to be ''insolvent''. There are two forms: cash-flow insolvency and balance-sheet in ...
Debt is an obligation that requires one party, the debtor, to pay money or other agreed-upon value to another party, the creditor. Debt is a deferred payment, or series of payments, which differentiates it from an immediate purchase. The de ...
A creditor or lender is a party (e.g., person, organization, company, or government) that has a claim on the services of a second party. It is a person or institution to whom money is owed. The first party, in general, has provided some property ...
s. As a general principle of corporate law
, in the United States, a parent entity and the sole owner are not liable for the acts of its subsidiaries.
However, as a caveat, they may be liable for its subsidiaries’ obligations when the law supports "piercing the corporate veil".
Provided that the parent entity or the sole owner do not maintain separate legal identities
from the subsidiary (through inadequate/ undocumented transfer of funds and assets), the judgment is likely to be in favor of the creditor. In the same regard, if a subsidiary is undercapitalized
from its inception, that may be grounds for piercing the corporate veil. Further, if injustice/fraud to the creditor is proven, the parent entity or the owner may be held liable to compensate the creditor. Thus, there is not one characteristic that defines the piercing of a corporate veil - a factors test is used to determine if piercing is appropriate or not.
If shares are issued "part-paid", then the shareholders are liable, when a claim is made against the capital of the company, to pay to the company the balance of the face or
Par value, in finance and accounting, means stated value or face value. From this come the expressions at par (at the par value), over par (over par value) and under par (under par value).
A bond selling at par is priced at 100% of face valu ...
of the shares.
By the 15th century,
English law is the common law legal system of England and Wales, comprising mainly criminal law and civil law, each branch having its own courts and procedures.
Principal elements of English law
Although the common law has, historically, bee ...
had awarded limited liability to
Monasticism (from Ancient Greek , , from , , 'alone'), also referred to as monachism, or monkhood, is a religious way of life in which one renounces worldly pursuits to devote oneself fully to spiritual work. Monastic life plays an important role ...
communities and trade
A guild ( ) is an association of artisans and merchants who oversee the practice of their craft/trade in a particular area. The earliest types of guild formed as organizations of tradesmen belonging to a professional association. They sometimes ...
with commonly held property. In the 17th century,
A joint-stock company is a business entity in which shares of the company's stock can be bought and sold by shareholders. Each shareholder owns company stock in proportion, evidenced by their shares (certificates of ownership). Shareholders are ...
charters were awarded by the crown to monopolies such as the
East India Company
The East India Company (EIC) was an English, and later British, joint-stock company founded in 1600 and dissolved in 1874. It was formed to Indian Ocean trade, trade in the Indian Ocean region, initially with the East Indies (the Indian subco ...
The world's first modern limited liability law was enacted by the state of New York
In England it became more straightforward to incorporate
a joint stock company following the Joint Stock Companies Act 1844
, although investors in such companies carried unlimited liability until the
Limited Liability Act 1855
The Limited Liability Act 1855 (18 & 19 Vict c 133) was an Act of the Parliament of the United Kingdom that first expressly allowed limited liability for corporations that could be established by the general public in England and Wales as well a ...
There was a degree of public and legislative distaste for a limitation of liability, with fears that it would cause a drop in standards of probity. The 1855 Act allowed limited liability to companies of more than 25 members (shareholders).
Insurance is a means of protection from financial loss in which, in exchange for a fee, a party agrees to compensate another party in the event of a certain loss, damage, or injury. It is a form of risk management, primarily used to hedge ...
companies were excluded from the act, though it was standard practice for insurance contracts to exclude action against individual members. Limited liability for insurance companies was allowed by the Companies Act 1862
. The minimum number of members necessary for registration as a limited company was reduced to seven by the Companies Act 1856
. Limited companies in England and Wales now require only one member.
Similar statutory regimes were in place in France and in the majority of the U.S. states by 1860. By the final quarter of the nineteenth century, most European countries had adopted the principle of limited liability. The development of limited liability facilitated the move to large-scale industrial enterprise, by removing the threat that an individual's total wealth would be confiscated if invested in an unsuccessful company. Large sums of personal financial capital became available, and the transferability of shares permitted a degree of business continuity not possible in other forms of enterprise.
In the UK there was initially a widespread belief that a
A corporation is an organization—usually a group of people or a company—authorized by the state to act as a single entity (a legal entity recognized by private and public law "born out of statute"; a legal person in legal context) and re ...
needed to demonstrate its
A credit risk is risk of default on a debt that may arise from a borrower failing to make required payments. In the first resort, the risk is that of the lender and includes lost principal and interest, disruption to cash flows, and increased ...
by having its shares only
partly paid A partly paid share is a share in a company which has only partial been paid compared to the par value, with the understanding that as the company requires more funds, calls will be made from time to time to request more money until the shares are ...
, as where shares are partly paid, the investor would be liable for the remainder of the nominal value in case the company could not pay its debts. Shares with nominal values of up to £1,000 were therefore subscribed to with only a small payment, leaving even a limited liability investor with a potentially crushing liability and restricting investment to the very wealthy. During the Overend Gurney crisis
(1866–1867) and the Long Depression
(1873–1896) many companies fell into
In accounting, insolvency is the state of being unable to pay the debts, by a person or company (debtor), at maturity; those in a state of insolvency are said to be ''insolvent''. There are two forms: cash-flow insolvency and balance-sheet i ...
and the unpaid portion of the shares fell due. Further, the extent to which small and medium investors were excluded from the market was admitted and, from the 1880s onwards, shares were more commonly fully paid.
Although it was admitted that those who were mere investors ought not to be liable for debts arising from the management of a corporation, throughout the late nineteenth century there were still many arguments for unlimited liability for managers and directors on the model of the French '' société en commandite
''. Such liability for directors of English companies was abolished in 2006. Further, it became increasingly common from the end of the nineteenth century for shareholders to be directors, protecting themselves from liability.
In 1989, the
The European Union (EU) is a supranational union, supranational political union, political and economic union of Member state of the European Union, member states that are located primarily in Europe, Europe. The union has a total area of ...
enacted its Twelfth Council Company Law Directive
, requiring that member states make available legal structures for individuals to trade with limited liability. This was implemented in England and Wales in the Companies (Single Member Private Limited Companies) Regulations 1992, which allowed single-member limited-liability companies.
Some argue that limited liability is related to the concept of separate
Legal capacity is a quality denoting either the legal aptitude of a person to have rights and liabilities (in this sense also called transaction capacity), or altogether the personhood itself in regard to an entity other than a natural person ...
bestowed on the corporate form
, which is promoted as encouraging
Entrepreneurship is the creation or extraction of economic value. With this definition, entrepreneurship is viewed as change, generally entailing risk beyond what is normally encountered in starting a business, which may include other values t ...
by various economists,
[Halpern, et al. (1980)]
enabling large sums to be pooled towards an economically beneficial purpose.
Limited liability has been justified as promoting investment and capital formation by reassuring risk averse investors.
An early critic of limited liability, Edward William Cox
, a lifelong member of the Conservative Party, wrote in 1855:
Others argue that while some limited liability is beneficial, the privilege ought not to extend to liability in
A tort is a civil wrong that causes a claimant to suffer loss or harm, resulting in legal liability for the person who commits the tortious act. Tort law can be contrasted with criminal law, which deals with criminal wrongs that are punishable ...
for environmental disaster
s or personal injury
because this leads to excessive risk taking and negative externalities by corporations.
Others argue that limited liability should be permitted, but should be taxed more heavily to offset the harm limited liability causes. Such taxes could be structured to generate information for regulators about how risky the activities companies are undertaking are to third parties.
Anarcho-capitalism (or, colloquially, ancap) is an anti-statist, libertarian, and anti-political philosophy and economic theory that seeks to abolish centralized states in favor of stateless societies with systems of private property enfo ... Murray N. Rothbard
, in his '' Power and Market
'' (1970), criticized the need of limited liability laws, observing that similar arrangements emerge upon mutual and voluntary agreement in a
In economics, a free market is an economic system in which the prices of goods and services are determined by supply and demand expressed by sellers and buyers. Such markets, as modeled, operate without the intervention of government or any ot ...
The 1957 Brussels Convention and the 1976 London Convention on Limitation of Liability for Maritime Claims
permit the charterer, manager, operators and salvor
s of a ship, and the master and members of the crew, to limit their liability for damage caused by events occurring “on board or in direct connection with the operation of the ship, or with salvage operations" and for "consequential loss resulting therefrom”.Convention on limitation of liability for maritime claims, 1976 (with final act). Concluded at London on 19 November 1976
no. 24635, Article 2(1)(a), accessed 18 October 2020
* Limited liability company
* '' Salomon v A Salomon & Co Ltd''
Unlimited liability company
An unlimited company or private unlimited company is a hybrid company (corporation) incorporated with or without a share capital (and similar to its limited company counterpart) but where the legal liability of the members or shareholders is n ...
* No liability – for mining companies only
* Proprietary company
* , reprinted in , pp. ix, 406.
* Jefferys, J.B. (1954) "The denomination and character of shares, 1855–1885", in Carus-Wilson ''Op. cit.'', pp. 344–57
* Select Committee on the Limited Liability Acts (1867) ''Parliamentary Papers'' (329) X. 393, p. 31
* , reprinted in Carus-Wilson ''Op. cit.'', pp. 358–79