A corporate entity is often favorable for various reasons including limited liability for corporate acts, with investor risk being limited to the extent of their personal contribution. This principle of limited liability is subject to challenge, primarily with respect to shareholders of closely held corporation.
Piercing the Corporate Veil
If a party can "pierce the corporate veil" then a corporation's existence is ignored, and the shareholders of the corporation may be held liable.
Although courts are reluctant to hold a director or an active shareholder liable for actions that are legally the responsibility of the corporation (even if the corporation has a single shareholder), they will sometimes do so if the corporation was markedly noncompliant or if holding only the corporation liable would be singularly unfair to the party.
Totality of Circumstances
In most jurisdictions, the courts look to the "totality of circumstances." This means the courts will look to:
Whether the corporation is being used as a "facade" for a dominant shareholder's personal dealings (i.e., whether the corporation is an "alter ego" of the shareholder).
Courts look to whether there is "unity of interest and ownership" between the entity and the members to ensure that the corporation in fact did not have an existence independent of the members.
Further, a party must generally prove that the incorporation was merely a formality and that the corporation neglected corporate formalities and protocols, such as voting to approve major corporate actions in the context of a duly authorized corporate meeting. This is often the case when a corporation facing legal liability transfers its assets to another corporation with the same management and shareholders. It also happens most often with single-person or small, closely held corporations that are managed in a haphazard manner.
Factors To Be Considered By Courts
Undercapitalization of the corporation at the time of its formation;
Disregard of corporate formalities;
Use of corporate assets as a shareholder's own assets;
Self-dealing with the corporation;
Siphoning of corporate funds or stripping of corporate assets;
Use of the corporate form to avoid existing statutory requirements or other legal obligations;
A shareholder's impermissible control or domination over the corporation; and,
Wrongful, misleading, or fraudulent dealings with a corporate creditor.
Corporate liability and piercing of the corporate veil is often challenging. As such, it is beneficial to retain experienced and professional attorneys to assist you with this matter. Please call Aziz Legal by phone at (408) 203-4627 or email us at firstname.lastname@example.org.
This article is merely informational and is not intended to be used as legal advice. Use of any information from this article is for general information only and does not represent personal legal or tax advice, either express or implied. Readers are encouraged to consult Aziz Legal, or another attorney, for any specific legal matters.