Unlimited Liability: Definition and Ways to Avoid

Unlimited liability refers to liability that is not restricted by law or a contract. When business owners have unlimited liability, their personal assets can be used to pay the company’s debts. Sole proprietors and general partners have unlimited liability for their company’s financial obligations. Prospective business owners can shield themselves from liability by setting up their business as a limited liability company or corporation.

What is Unlimited Liability?

Unlimited liability means liability that’s not capped by law or a contract. A single owner or joint owner of a company has unlimited liability when they are fully liable for all of the company’s financial and non-financial liabilities. A company’s liabilities may include, for instance, damages assessed against the firm in lawsuits or other litigations. When business owners have unlimited liability, they can be fully responsible for their company’s debts and other financial obligations and must cover for them from their personal assets.

An example of unlimited liability is a business created by an individual. For instance, suppose that an entrepreneur creates a construction business. They set up their business as an individual so they and their company are legally the same. If the company gets into financial trouble and is unable to pay its debts, creditors will use the entrepreneur’s personal assets to pay the company’s debts.

How Unlimited Liability Works

The owners of a business have unlimited liability when there is no legal separation between the owners and the business entity. The owners are responsible for all liabilities and debts of the business. If the business lacks the funds to pay its debts or meet other liabilities, the owners must use their personal assets to satisfy those obligations.

Types of Unlimited Liability

Two types of business organizations have unlimited liability: sole proprietorships and general partnerships.

Sole Proprietorship General Partnership

An option to a general partnership is a limited partnership, which includes both limited partners and general partners. Only the general partners have unlimited liability.

Ways to Avoid Unlimited Liability

Prospective business owners can avoid the risks associated with unlimited liability by establishing their business as either a limited liability company (LLC) or a corporation. Both types of organizations shield owners from personal liability for the company’s debts and financial obligations.

Limited Liability Company (LLC) Corporation