What Piercing Corporate Veil means and when it may occur?

Corporation is a business entity separate from its owners. It can act on its own and all claims are brought against the corporation, not against its shareholders. Shareholders are not personally liable for the acts of the company. The exception to this legal principle is called piercing corporate veil. It may occur when the acts of individuals are grossly negligent, fraudulent and the corporate shell was used with intent to avoid personal liability. Basically it should be proven that a shareholder operated a company in his personal capacity and made the company his alter ego. It is easier to do in small businesses when the owner may be a director and executive at the same time rather than in big companies with multiple check mechanisms. First indication of whether the company was used as an alter ego of its owner is to look whether corporate formalities were observed. For example, were corporate and personal bank accounts and expenses separated? Were corporate books and records maintained? Were shareholder and director meetings held regularly? What were the decision-making processes in the company? Was the company intentionally undercapitalized? The courts respect the corporate identity and piece the corporate veil only if a fraud or injustice will occur if it is not done. There is a two-step test:

 

First step to PCV – unity of interest/alter ego; lack of corporate formalities; commingling of funds and assets; undercapitalization (if intentional, merely because corporation doesn’t have money, doesn’t allow PCV).

 

Second step to PCV – failing to PCV would sanction a fraud or injustice (not always necessary).

 

Fraud/injustice test won’t be satisfied merely because the defendant firm has no money to go after. It prevents plaintiffs to go after the deeper pockets. There must be an indication that some wrong will happen if PCV is not done (e.g. unjust enrichment, escape of liabilities, etc.).

 

There is also a “reverse PCV”, which allows plaintiff to go after other companies’ assets in case several companies had the same owners and were run as one (e.g. shifted assets without formalities). In this case again a fraud, inequity, injustice should be present if not PCV is not done. Merely going after the richer entity because it has the same owner is not allowed.

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