Unlike taking out a loan, when you have shareholders invest in your business, you do not have to guarantee each shareholder that you will pay them back in full for the money they invest into your business. Any person who invests money into your business is essentially buying a piece of your business and taking a risk to see if the business will succeed.
The benefit to the shareholder is that when your business does succeed and grows in value, so does their investment. In addition, when your business starts making a profit, generally you will have to share that profit with your shareholders in the form of dividends. Also, since stockholders own a piece of business, they generally get a say in how the business is run, so keep in mind that your business is not longer just "your" business when you bring in equity investors.
Generally investors do not want to be equal partners in ownership in a business. Investors commonly want to play a passive role in which they contribute some money to the business in hopes of a good return on that money.
Therefore, it is important to accommodate the structure of your business to reflect the passive nature of these investors by making sure they do not have the same type of liability in the business as its primary owners. While an investor is willing to risk losing all the money she voluntarily put into the business, she is generally not willing to lose more than that through the business’s debts and any lawsuit against the business.
There are three common types of companies you can craft your business into to limit the liability of investors:
Whenever you give an investor an interest in your company in return for funding, you are giving the investor what is known as a security. There are both state and federal laws that regulate how, when, and how many securities you can issue to investors. Be sure you read and understand these securities laws before you start distributing securities to investors.
Incorporating your business and complying with securities laws tends to be a very complex process. You will probably want to consult an experienced business attorney who can help you understand the securities laws and will help guide you in shaping your business for equity investors.