If you are considering filing a complaint against a corporation or limited liability company, you may want to ask yourself whether you can also name the company’s shareholders, directors or officers as defendants as well.[column size=”1-3″ last=”0″] [/column] [column size=”2-3″ last=”1″]
Generally, the law encourages business ventures, risk-taking, and entrepreneurial activity by the creation of what is known as the “corporate veil.” When transacting business through a corporate entity, the corporate veil doctrine protects the personal assets of the company’s officers, directors, and shareholders, and limits liability exposure to the assets of the corporation.
But this is not an absolute protection. If individuals are treating the corporation as an “alter-ego,” courts will disregard the corporate entity, allowing for individual shareholders, directors or officers to be held liable in certain circumstances. This is also known as “piercing the corporate veil.”
In many states, courts can pierce the corporate veil when both of the following two requirements are met:
(1) Unity of Interests – The shareholders in question have treated the corporation as their “alter ego,” rather than as a separate entity; and
(2) Inequitable Result – Upholding the corporate entity and allowing for the shareholders to dodge personal liability for its debts would “sanction a fraud or promote an injustice.”
Courts apply a factor-by-factor test to determine whether “alter-ego” liability is appropriate. These factors are laid out in the California case of Associated Vendors Inc. v. Oakland Meat Packing, Co. (1962).
1) Did the individual Defendant(s) act in bad faith?
2) Did the individuals contract with another with the intent to avoid performance by using a corporate entity as a shield against personal liability?
3) Did the individuals divert assets from a corporation by or to a stockholder or other person or entity to the detriment of creditors?
4) Domination of the corporation by a few key individuals?
5) Did the individuals and corporation use the same office or business location?
6) Did the individuals and the corporation employ the same attorney?
7) Did the individuals use the entity to procure labor, services and merchandise for another person or entity?
8) Did the individuals fail to adequately capitalize the corporation?
9) Did the individuals fail to maintain minutes or adequate corporate records?
10) Will there be an inequitable result if the court fails to pierce?
[/column] The burden of establishing alter-ego liability is on the plaintiff. Absent factors supporting individual liability, courts are reluctant to pierce the corporate veil because alter-ego liability is fundamentally at odds with the general rule that a corporation is a legal entity separate from its founders and owners; and the law specifically permits owners to incorporate a business for the very purpose of shielding them from its liabilities.
However, California courts have “followed a liberal policy of applying the alter-ego doctrine where the equities and justice of the situation appear to call for it. In practice, the alter-ego doctrine is usually applied where there are only a few shareholders and they have not respected their corporation’s separate identity. When evaluating alter-ego liability, courts do not make a distinction between forms of corporations, and the doctrine applies equally to non-profit corporations and for-profit corporations.