Piercing the Corporate Veil - Not So Fast09/08/2010 | Fall 2010 Newsletter
In the midst of this economic downturn, the construction in-dustry has taken it on the chin. Even long-standing, venerable companies have fallen on hard times. Frequently, owners or general contractors become unable to pay their obligations. And when there is no payment bond, or the time to file a mechanic’s lien has lapsed, many contractors have been confronted with the bleak prospect of having to walk away empty handed or sue a defunct corporation. While the trust fund provisions of the Lien Law can sometimes impose personal liability, those sections are often unavailable.
At that point we are usually asked about the viability of “piercing the corporate veil”— that is, seeking to recover personally from the individuals who own the company, rather than the company itself. But this option is usually more difficult than is popularly believed.
The general rule is that a corporation exists independently of its owners, who are not personally liable for its obligations, and that the individuals may incorporate for the express purpose of limiting their personal liability. One seeking to pierce the corporate veil and to impose personal liability on the owners of he corporation must first demonstrate that the owners “exercised complete domination over it in the transaction at issue.”
But demonstrating “domination” by the owners is not enough. A creditor must demonstrate other factors as well.
Among those factors is whether the owner has “failed to adhere to corporate formalities; inadequate capitalization; commingling of assets; and the use of corporate funds for personal use.” It must be shown that the owner “abused the privilege of doing business in the corporate form.” A creditor must show that the owners engaged in a level of bad faith reflected in the commission of torts or predatory acts. For example, a mere breach of contract cannot form the basis for piercing the corporate veil, but the occurrence of fraud (such as by stripping the assets of the corporation so as to render it judgment-proof) might meet the test.
To pierce the corporate veil, court decisions state that a creditor has “a heavy burden” to prove its right to such relief. Can it be done? Yes, in the right situation. But it is not the panacea which it is commonly believed to be.