Piercing the Corporate Veil: Understanding Shareholder Liability

business organizations

Piercing the corporate veil, also known as lifting the corporate veil, refers to a legal decision where courts treat the rights or duties of a corporation as the rights or liabilities of its shareholders. Typically, a corporation is treated as a separate legal entity, solely responsible for its debts and the sole beneficiary of the credit it is owed.

Why Does Veil Piercing Occur?

Veil piercing is most common in close corporations, where shareholders often have a more direct influence on the company’s operations. While the law varies by state, courts generally have a strong presumption against piercing the corporate veil. They will only do so if there has been serious misconduct by the corporation or its shareholders.

Conditions for Veil Piercing

To pierce the corporate veil, courts typically require one or more of the following conditions:

1. Alter Ego or Mere Instrumentality: The relevant corporation must be shown to be the alter ego or mere instrumentality of the parent corporation or its shareholders. In other words, the corporate form is being misused to shield shareholders from liability.

2. Improper Conduct: The alleged parent company or shareholder(s) must have engaged in improper conduct. This misconduct may include:

- Abusing the corporation (e.g., intermingling personal and corporate assets).
- Undercapitalization at the time of incorporation.

State-Specific Approaches

Laws regarding veil piercing vary from state to state. Here are some examples:

Florida: To pierce the corporate veil in Florida, one must typically show that the relevant corporation is the alter ego or mere instrumentality of the parent corporation or its shareholders and that the alleged parent company or shareholder(s) engaged in improper conduct.
Alaska: Alaska courts use either the disjunctive test (excessive control or corporate misconduct) or the conjunctive test (both excessive control and corporate misconduct) to determine veil piercing.
Nevada: Nevada uses a three-part test:
1. The corporation must be influenced and governed by the person asserted to be its alter ego.
2. There must be such unity of interest and ownership that one is inseparable from the other.
3. Adherence to the fiction of separate entity would sanction a fraud or promote injustice.
New York: In New York, the Walkovsky v. Carlton case established that a plaintiff must prove that a shareholder used the corporation as an agent to conduct business individually. Veil piercing occurs when the corporation is an agent of its shareholder, making the principal vicariously liable.
Texas: In Texas, the In re JNS Aviation, LLC case held that the corporate veil could be pierced when any of the asserted veil-piercing strands are met

Conclusion:

Understanding veil piercing is crucial for both shareholders and directors. While limited liability protects investors, courts will intervene when misconduct or misuse of the corporate form occurs. If you’re involved in a close corporation, consult legal professionals to navigate these complexities effectively.

Remember, maintaining proper corporate formalities and ethical conduct is essential to avoid veil piercing and protect your interests.

Joshua M. Stahley

Chairman, CEO, & Managing Director of Legal Services

The Law Offices of Joshua M. Stahley, P.A

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