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Affluent Christian Investor | September 19, 2017

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What’s Wrong With Limited Liability Corporations?

limited liability PUBLIC DOMAIN

In 1855, George Sweet highlighted the forthcoming changes to contract law. The changes that were introduced became known as limited liability law. The impact on the nature of contract and on business in general is hard to underestimate. Sweet, a barrister at law, explored the legal issues around the question of determining who is the debtor in business transactions. [1] Here’s a summary of some of Sweet’s key arguments in his presentation against limited liability.

It comes as no surprise that Sweet would link the question of debts (i.e. losses) to the question of profits. Profit and loss have a direct correlation to one another, according to Sweet.

“A trader with limited or no liability is, like a corporation, an anomaly incapable of existence under any system of laws which does not make express provision for it.”[2]

In other words, limited liability does not exist unless special provision is made for it. Who, then, is responsible for debts? Liability for debts is the express privilege of those who plan to collect the profits.

“A little consideration will allow us to see, that the notion of sharing in the profits of a trade, with exemption from the duty of paying for the trade debts, could not possibly be recognized in the growth of the unwritten, judicial or common law of a state; and, therefore, that no system of law needs to contain, or can logically contain, any prohibition of such trading.”[3]

For Sweet it is a matter of law and of logic that liability can be stepped around by those who plan to collect the profits. It can’t be done, he says. It is an “anomaly” to suggest there is a business person or corporation that has limited or no liability.

Does this mean that partners cannot agree among themselves who might be liable for their joint debts? No, it does not. Partners, i.e. joint stock holders, might well contract among themselves that one partner (A) will be liable for all the debts thereby limiting the liability of partner (B), while both (A) and (B) share in the profit. But what they cannot do is contract among themselves to pass off their debts to someone else without that person’s consent. Now unless the supplier of goods or services is informed about this arrangement and he agrees to trade under those terms, the business trader cannot have foisted upon him a financial deal of which he was ignorant. Thus,

“A creditor’s right of resort to the person who has incurred the debt, is a right which the law gives him invito debitore, and therefore is a right that cannot be limited without the creditor’s consent.”[4]

Sweet continues,

“All that can be imputed to the law, is that it declines to hold (C) bound by terms to which it is not shown that he assented.”[5]

Can it be said, though, that the people ‘assent’ to limited liability simply because an act of Parliament or Congress creates those laws? Such a view would require an abandonment of God’s law as the standard for the people and substitute in its place a theory of social contract. ‘The people elected us to make laws. We make laws. Therefore the people assent to all the laws we make.’

But you cannot give away via the ballot box that which is not yours to give away. You cannot use the ballot box as an excuse for bad or wrong laws. You cannot give away God’s law concerning personal responsibility, accountability and liability and replace it with something else.

In a study by Stephen Shafer, a historical trend was recognized.

“It was chiefly owing to the violent greed of feudal barons and medieval ecclesiastical powers that the rights of the injured party were gradually infringed upon, and finally, to a large extent, appropriated by these authorities, who exacted a double vengeance, indeed, upon the offender, by forfeiting his property to themselves instead of to his victim, and then punishing him by the dungeon, the torture, the stake or the gibbet. But the original victim of wrong was practically ignored.”

After the Middle Ages, restitution, kept apart from punishment, seems to have been degraded. The victim became the Cinderella of the criminal law.[6]

And here we arrive at the heart of the criticism of limited liability from a Biblical perspective. At the center of the idea of biblical justice is restitution (Ex. 21-22). Restitution is to be made in full to the victim of particular acts, such as theft. In addition, restitution could include up to 500% of the value of the items in question.

Unpaid bills eventually qualify as theft, and therefore fall under the umbrella of the restitution laws. And limited liability laws work to limit liability of the person who contracted the debt.

George Sweet makes another startling observation. When you buy a rail ticket that has printed on the back of it that the company will not guarantee that its services will run on time, nor will they accept responsibility for your luggage, you buy the ticket ‘under duress’. In other words, you have no choice but to accept the conditions because there is no other way to get to your destination. These conditions, however, are not contractual in nature; they are ‘duress’. Sweet applies this to the situation of limited liability:

“So when a mercantile undertaking is started with a large capital and limited liability, those to whom it offers custom are under duress to deal with it, however much they dislike the limit of liability.”[7]

If you have trouble understanding duress, think coercion.

Sometimes it is necessary to ask: What checks are there to prevent fraudulent dealings in commerce? It is not necessary to have intention to defraud to come under the umbrella of securities fraud in the current time. All that is necessary is that you do not deliver what you promised to investors as an incentive for them to invest. Is there something that can be used as a check on those entrepreneurs who promise big but deliver small? Sweet answers the question for us.

“The reckless debtor thus creates the reckless trader. … The most natural, obvious and reasonable, though still inadequate check upon improvident venture, is the unlimited liability of the adventurers.”[8]

It is beyond the scope of this essay to explore the advent of corporations and their identity as artificial persons. But author Thom Hartmann claims,

“No laws were passed by Congress granting corporations the same treatment under the Constitution as living, breathing human beings, and none has been passed since then [1886 — Santa Clara County vs. Southern Pacific Railroad].” [9]

But the growth of the corporations and their influence in our time, would be difficult to achieve without limited liability and the identification of the corporation as a person. Contract law was already in place to allow people to allocate liability to a third party. The corporations, however, need limited liability to protect shareholders from full accountability for the actions of themselves or their agents. Thus, Australian author and psychologist Alex Carey could conclude,

“The 20th century has been characterized by three developments of great political importance. The growth of democracy; the growth of corporate power; and the growth of corporate propaganda as a means of protecting corporate power against democracy.”[10]

Conclusion

Limited liability can be summarized thus: It diminishes property rights, depreciates restitution, severs the link between profit and loss, and encourages reckless decision-making because accountability is transferred to someone else who may not even know they have that liability foisted upon them. Businesses that buy on credit terms usually do so in order to use the unpaid bills as an interest-free loan to the business. It’s cheaper than bank finance.[11]

Sweet argues that profit and loss are linked. Principals who authorize their agents/managers to contract debts are liable for those debts. The principals in any enterprise are determined by who gets the profits, in other words, the shareholders. If a group of shareholders allow their managers to run up debts, the shareholders are responsible for those debts contracted on their behalf in the quest for profit. Shareholders could avoid being put in the situation by making sure their agents are not authorized to contract debts, or if they are, by placing tight contractual restrictions on how much can be borrowed. In which case, if the agents/managers did so without authorization, the shareholders might well insist the managers alone are responsible for the debts.

Someone is going to pay the debts, that much is obvious. Who should pay the debts is the leading question. Limited liability does not remove the debt — it merely transfers it from one person to another. In some jurisdictions, personal director’s guarantees are part of the commercial landscape for those who want to buy on credit. So too is the legal requirement for all company directors to declare their company’s ability to pay all its debts during the forthcoming year when they fall due. Signing such a declaration, then trying to file for bankruptcy protection later in the year, makes it difficult for directors to hide behind limited liability laws, though it may protect the shareholders. The creditors, thus, are fighting back and limited liability laws are reduced in their effectiveness. This is a move in the right direction. These steps do not necessarily give creditors access to the assets of shareholders in a company. But they do help to hold directors personally accountable for the actions they take.

In other words, limited liability encourages and supports disobedience to God by enshrining in the law of the land the idea that making full restitution is unnecessary. This is the foundation to Rushdoony’s connection between limited liability and socialism.

“[I]t can be argued that the limited liability company destroyed capitalism. … Capitalism and limited liability are alien concepts.”[12]

Limited liability laws are an attempt to thwart God’s justice in real time.

Therefore limited liability laws are at the center of the denial of free trade between individuals and their corporations.

 


[1] London: C. Roworth and Sons. Available as a free download from Google Books.

[2] Sweet, p. 7.

[3] Idem.

[4] Sweet, p.8.

[5] Sweet, p. 10.

[6]Quoted by R.J. Rushdoony in, Institutes of Biblical Law, Vol 1 (Nutley, NJ: Craig Press, 1973), pp. 274–275.

[7] Sweet, pp. 14-15.

[8] Sweet, p. 15.

[9] Thom Hartmann, Unequal Protection: How Corporations Became “People” — and How You Can Fight Back (Berrett-Koehler Publishers. Kindle Edition, 2010), Kindle Locations 372-379.

[10] Quoted in Hartmann, ibid., Kindle Locations 310-312. See also, David C. Korten, When Corporations Rule the World (Berrett-Koehler Publishers, 3rd edition, 2015).

[11] Some of the worst examples I have witnessed of this is manufacturing plants in New Jersey that use employment agencies for their labor force, but they insist on up to six months credit terms before they pay the bill. The employment agency then has to borrow the cash to pay the workers each week. This arrangement usually drives the employment agency out of business for the manufacturers avoid as much as possible paying the higher prices to cover the interest and loan charges.

[12] R.J. Rushdoony, Politics of Guilt and Pity (Vallecito, CA: Ross House Books, 1995), p. 259, 260.

Ian Hodge is an accomplished musician and music teacher, an executive manager and a management consultant to business owners.

Dr. Hodge began his working career as a professional musician. His interest in Christian economic theory, however, led to a move into the investment industry, where he made his way to the ranks of executive management. His first position as a CEO outside of his own company was a turnaround situation, and he found this was “his” place in the business world. For the past 16 years has been a business consultant to help turn around struggling businesses. He has clients in USA, Australia, New Zealand, and Canada.

He actively uses his consulting skills to help train church pastors, elders and deacons in leadership and church growth practices.

As a musician, he worked with several singers around Australia and the South Pacific as their accompanist and music director.

A current project is the development of SonCross Academy, an online school that starts with the Bible, providing lessons in music theory and piano, economics, business, history, philosophy and theology for ages 8+. www.soncrossacademy.org.
 
Ian Hodge received his Ph.D. degree from Whitefield Seminary in “Christian Intellectual Thought – Economics”. He has written over 500 articles on topics such as business management, economics, education, law, finance, health, philosophy, politics, theology, and music as he explores the application of a biblical world view. He runs his own blog at www.biblicallandmarks.com.
 
He is the author of:
 
· Why Would Anyone In Their Right Mind Believe the Bible? An introduction to the Christian Faith.
· Baptized Inflation: A Critique of “Christian” Keynesianism.
· Is This The End of Religious Liberty? The Declaration on the Elimination of All Forms of Discrimination and Intolerance Based on Religion or Belief.
· Making Sense of Your Dollars: A Biblical View of Wealth.
· How To Be Diabetes Free . . . For Life. An analysis of the biology of diabetes, and how this disease can be prevented and even halted.
· Ian Hodge’s Read, Write & Play Music, a self-teaching program that instructs young students on how to write (compose) music.
· Powerhouse Piano, online video and live lessons in classical piano.
· Publisher, editor, William the Baptist. A classic in Christian literature, reissued with an introduction by Dr. Hodge.
 
In his spare time, Ian can be found actively debating atheists on his city streets and elsewhere (anywhere) whenever the opportunity arises.

 

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