What is the Corporate Veil?
The corporate veil essentially refers to the corporate form’s ability to shield shareholder assets from creditors of the business entity. Partners in a general partnership put their personal wealth on the line to cover the partnership obligations. Other business entities, however, limit the business owner’s personal liability for business obligations to the amount initially invested in the company in the case the business assets are unable to satisfy the debts of the business. Such obligations of the business may arise from litigation or from contract. This limitation of personal liability arising from the form of the business entity is termed as the corporate veil. If you have questions regarding business entity liabilities, contact an experienced business attorney who can provide guidance on the subject.
What is Piercing the Corporate Veil? (Alter-Ego Liability)
Once one understands that the corporate veil is essentially a means of shielding business owners from personal liability for the obligations of the business, the piercing of the corporate veil is an intuitive concept. Piercing the corporate veil means that, in some cases, the corporate form is disregarded and the firm’s shareholders are held personally liable for the debts of the business as a result of the shareholder’s dealings with the corporation.
How to Pierce the Corporate Veil – Alter-Ego Doctrine
[I]n order to cast aside the legal fiction of distinct corporate existence it must appear that ‘they are the ‘business conduits an alter ego of one another’, and that to recognize their separate entities would aid the consummation of a wrong.’
Wenban Estate v. Hewlett (1924) 193 Cal. 675, 697 (quoting from Erkenbrecher v. Grant (1921) 187 Cal. 7, 11). This quote essentially explains the meaning of the alter-ego doctrine that is used in California to pierce the corporate veil. This article explains the requirements to use the alter-ego doctrine and why it is rarely successful.
Alter-Ego Doctrine – Two Requirements
The alter ego doctrine arises when a plaintiff comes into court claiming that an opposing party is using the corporate form unjustly and in derogation of the plaintiff’s interests.
There is no litmus test to determine when the corporate veil will be pierced; rather the result will depend on the circumstances of each particular case. There are, nevertheless, two general requirements: “(1) that there be such a unity of interest and ownership that the separate personalities of the corporation and the individual no longer exist and (2) that, if the acts are treated as those of the corporation alone, an inequitable result would follow.
The gist of the cases which have considered the doctrine is that both of these requirements must be found to exist before the corporate existence will be disregarded; that such determination is primarily one for the trial court and is not a question of law; and that the conclusion of the trieer of fact will not be disturbed if it be supported by substantial evidence.
First Alter Ego Requirement – Unity of Interest
California courts have identified a bevy of factors tending to show that the corporation and the shareholders share such a unity of interest so as to justify a piercing of the corporate veil and application of the alter ego doctrine.
Among the possible factors pertinent to the trial court’s determination are: commingling of funds and other assets, failure to segregate funds of the separate entities, and the unauthorized diversion of corporate funds or assets to other than corporate uses; the treatment by an individual of the assets of the corporation as his own; the failure to obtain authority to issue or subscribe to stock; the holding out by an individual that he is personally liable for the debts of the corporation; the failure to maintain minutes or adequate corporate records and the confusion of the records of separate entities; the identical equitable ownership in the two entities; the identification of the equitable owners thereof with the domination and control of the two entities; identification of the directors and officers of the two entities in the responsible supervision and management; the failure to adequately capitalize a corporation; the absence of corporate assets, and undercapitalization; the use of a corporation as a mere shell, instrumentality or conduit for a single venture or the business of an individual or another corporation; the concealment and misrepresentation of the identity of the responsible ownership, management and financial interest or concealment of personal business activities; the disregard of legal formalities and the failure to maintain arm’s length relationships among related entities; the use of the corporate entity to procure labor, services or merchandise for another person or entity; the diversion of assets from a corporation by or to a stockholder or other person or entity, to the detriment of creditors, or the manipulation of assets and liabilities between entities so as to concentrate the assets in one and the liabilities in another; the contracting with another with intent to avoid performance by use of a corporation as a subterfuge of illegal transactions; and the formation and use of a corporation to transfer to it the existing liability of another person or entity.
Second Alter Ego Requirement – Resulting Injustice
Despite the showing of the lack of separateness leading to a unity of interest in any given case, the alter ego doctrine will not be applied without a showing that upholding the corporate form would result in injustice to the plaintiffs.
The alter ego doctrine does not guard every unsatisfied creditor of a corporation but instead affords protection where some conduct amounting to bad faith makes it inequitable for the corporate owner to hide behind the corporate form.
The trial court erred in requiring the [creditor] to prove the [shareholders] acted with wrongful intent. The law does not require such proof. [Creditor] was required to prove that the [shareholders’] acts cased an … inequitable result. … [T]he shareholders’ intent is beside the point.
Presumption Against the Alter-Ego Doctrine
Alter ego liability is in direct contradiction to the general rule that a legally and properly formed corporation is a legal entity separate and distinct from its owners and thus protecting its owners from personal liability of the obligations of the corporation.
Because society recognizes the benefits of allowing persons and organizations to limit their business risks through incorporation, sound public policy dictates that imposition of alter ego liability be approached with caution.
Given the reluctance of courts to use the alter ego doctrine to pierce the corporate veil and hold shareholders liable for the corporation’s liabilities, the burden of pleading and establishing alter ego liability is on the plaintiff creditor. Minifie v. Rowley (1921) 187 Cal. 481, 488.
Despite this reluctance to apply the alter ego doctrine, there are situations which render the alter ego doctrine more likely to be successful than it would be in other situations. The alter ego analysis differs when the creditor trying to prove the doctrine enters into a contractual relationship with the corporation voluntarily as compared to a creditor whose claims arose from non-voluntarily, such as tort creditors. Cascade Energy & Metals Corp. v. Banks, 896 F.2d 1557 (10th Cir. 1990).
Thus, although the claim is normally met with harsh reluctance by the courts, it is more likely to be successful in the case of involuntary creditors of the corporation such as tort victims rather than from contractual claims arising from a voluntary relationship.
Contact an Experienced Alter-Ego / Corporate Veil Piercing Attorney in Los Angeles, Orange County, San Diego, Riverside, San Bernardino, San Jose, Sacramento, and Surrounding Areas in California Today
Piercing the corporate veil is a fact-driven enterprise that also requires knowledge of the relevant legal factors. Provided that it is such a complex area of law, it would serve a potential claimant well to contact an experienced business attorney to discuss the specifics of their case. Contact Talkov Law’s experience business attorneys either online or at (844) 4-TALKOV (825568) for a comprehensive evaluation of your situation.
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