Many state and local agencies tout what a great place New York is to start a small business. That may be true, but on closer examination of their advertising brochures, one small but important piece of the information is probably left out. The key information is Section 630 of New York Business Corporation Law. This section makes the top 10 shareholders of a corporation personally liable for the unpaid wages of the corporation. New York may be the only state in the country that has such a provision. The purpose of the statute is to protect the unpaid employees from being without a legal recourse for past-due salaries and benefits of an insolvent corporation.
This section is in conflict with the general legal rule that shareholders are not liable for the debts of the corporation. The law views the corporation as a separate legal entity from its owners, the shareholders. A corporation is a taxable entity, can own property in its name, and can sue and be sued. A corporation, in certain circumstances, even has many Constitutional protections that a natural person has.
Section 630 of Business Corporation Law provides for shareholder liability and the procedures that unpaid employees must follow. First, the corporation must be incorporated in New York State, not registered under the “Investment Company Act of 1940” and whose shares are not sold on any stock exchange. These requirements rule out the largest corporations and generally effective small businesses. Small businesses are more vulnerable to financial and economic factors resulting in insolvency or bankruptcy than larger publicly traded corporations.
The statute provides that the 10 largest shareholders, as determined by the fair value of their beneficial interest as of the beginning of the period during which unpaid services were rendered, are jointly and severally liable. Joint and several liability means that unpaid employees may seek payment against any one, any combination of 10 largest shareholders, several liability, or all 10 of the largest shareholders, joint liability.
Before an unpaid employee can begin a lawsuit against a shareholder, they must file written notice on the shareholders that the unpaid employee intends to hold the shareholder liable for the unpaid wages. The notice must be given within 180 days after the employee’s termination. In addition, an unpaid employee can even demand an examination of the corporation’s books.
Section 630 of the Business Corporation Law provides for a broad definition of wages and benefits. It means all compensation and benefits that includes salaries, overtime, vacation, holiday and severance pay. It also includes any employer contributions for insurances, pension or annuity funds or any other moneys due.
Business owners have legal options to avoid liability for unpaid wages. First, instead of organizing the business as a corporation, owners may want to form a limited liability company. The Limited Liability Company Law of New York does not have a comparable version of Section 630 of Business Corporation Law.
If small business owners insist on forming a corporation, then a corporation should be organized in another state such as Delaware. A Delaware-based corporation can get a “certification of authorization” to engage in business in New York. In either situation, the members of the New York Limited Liability Company or shareholders of a Delaware corporation would not be otherwise liable for unpaid wages of employees in the event the business became insolvent.
Larry Covell is a professor of business at SUNY Jefferson and an attorney. Contact him at email@example.com. His column appears every other month in NNY Business.