The “corporate veil” represents the legal separation between a company and its owners or shareholders. This separation shields the personal assets of owners and shareholders from being accessed if the corporation is sued or held liable.
The concept protects individuals who own or control companies from personal liability for the company’s actions. However, courts may “pierce” this veil when owners engage in fraudulent or illegal conduct, or fail to follow legal requirements for maintaining corporate status.
What does it mean to “pierce” the Corporate Veil?
Piercing the corporate veil allows courts to hold company owners personally responsible for corporate actions. This occurs in cases where owners act fraudulently, illegally, or harmfully. The corporate form applies to LLCs, Corporations, Partnerships, and other entity types.
Courts may impose personal liability when owners’ actions are so closely tied to corporate conduct that personal responsibility becomes appropriate.
Presumption Against Piercing Corporate Veil in Pennsylvania
Pennsylvania courts maintain “a strong presumption…against piercing the corporate veil.” Courts recognize and uphold corporate entities unless unusual circumstances justify exceptions. This high bar means courts rarely pierce the veil without specific, compelling reasons.
See Wedner v. Unemployment Board, 449 Pa. 460, 464, 296 A.2d 792, 794 (1972) (“[A]ny court must start from the general rule that the corporate entity should be recognized and upheld, unless specific, unusual circumstances call for an exception…. Care should be taken on all occasions to avoid making the entire theory of corporate entity * * * useless. Zubik v. Zubik, 384 F.2d 267, 273 (3d Cir.1967)”)
To determine the unusual circumstance, Pennsylvania’s courts have set out factors that may justify piercing the corporate veil. Note that the factors are non-dispositive, which means no single factor will determine the outcome.
Factors to That May Justify Pierce Corporate Veil.
Courts typically weigh several of these factors together rather than relying on any single one. Usually no one factor decides the outcome by itself.
- Using the company to commit fraud. If the owners of a company use the company as a vehicle to commit fraud, a court may decide to pierce the corporate veil.
- For example, if the owners of a corporation use corporate funds to pay for fake invoices or to make false statements to investors, a court may decide that they are personally responsible for any losses or damages resulting from that fraud.
- Another example is using the corporate bank account to launder money or misrepresenting the company’s financial condition in order to obtain loans may justify piercing the corporate veil.
- Failing to observe corporate formalities. Companies are required to follow certain formalities in order to maintain their legal status and the corporate veil. If the owners or shareholders fail to follow these formalities, they may be personally liable for the actions of the company.
- For example, they must hold regular meetings of the board of directors and maintain accurate records of their financial transactions.
- Other examples include: (1) failing to file an appropriate documentation with the department of state for the Commonwealth of Pennsylvania, (2) non-payment of the corporate dividends (distribution of profit or loss to the shareholders), and (3) not having functioning directors, or officers of the company.
- Undercapitalization or under-insurance of the company. If a company is undercapitalized, that means it does not have enough money or assets to cover its liabilities. A court may view this as a sign of reckless or negligent behavior on the part of the owners or shareholders and decide to pierce the corporate veil in order to hold the owners or shareholders personally liable for the corporation’s debts.
- For example, the company pays out all of its funds to the shareholders as dividends or distributions, but then doesn’t have enough money to pay their lease.
- Another example is the company being under-insured for the types of conduct it could be held liable for, such as not having proper workers compensation insurance, or failing to maintain general liability insurance.
- Comingling personal funds with corporate funds. One of the key principles of corporate law is that the funds and assets of a company are separate from the personal funds and assets of the owners and shareholders. If the owners or shareholders mix their personal funds with the corporate funds, for example by using corporate funds to pay their personal expenses, or use the company as a personal piggy bank (for their own personal benefit, rather than for the benefit of the company), a court may decide to pierce the corporate veil.
- For example, if the owners of a company use the company’s funds to pay for personal expenses, such as vacations or luxury cars, a court may decide that they are personally responsible for those expenses.
- Another example could be the owners of the company using the company’s funds to buy a vacation home that they also use for personal vacations, in which case, a court may decide that they are personally responsible for any losses or liabilities associated with that property.
We cover additional factors and examples that may justify piercing the corporate veil in the second installment of the piercing the corporate veil series video below.
Single Entity/ Enterprise Theory
In 2021, the Supreme Court of Pennsylvania clarified issues related to piercing the corporate veil. In Mortimer v. McCool, 255 A.3d 261 (Pa. 2021), the PA Supreme Court elaborated on the piercing of the corporate veil under the “single entity / enterprise theory.”
Single Entity or Enterprise theory means that the injured party can hold a sister or affiliate entity liable for the liabilities of corporations with common ownership that have mingled the operations. For example, if someone owns ABC LLC and XYZ LLC, and doesn’t keep them separate and distinct, there are avenues to recover damages from XYZ for ABC’s liabilities if they have common ownership, common management / operations, and could thereby will be considered as a single entity.
Below is the third installment of our Piercing the Corporate Veil series with a breakdown what undercapitalization means and how common ownership can justify piercing the corporate veil with simple definitions and real-life examples.
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Overall, the corporate veil exists to protect the owners and shareholders of a company from being personally liable for the actions of the company. However, if the owners or shareholders engage in fraudulent or illegal conduct, or fail to follow the legal requirements for maintaining an corporate entity in Pennsylvania, the court may decide to pierce the corporate veil and hold them personally responsible for the corporation’s actions.
Contact Kaminsky Law if you need to file or defend a lawsuit where the piercing the corporate veil is an issue in the litigation. Moreover, we can also help you in a business disputes as business disputes is one of our main practice areas.
