What is the Corporate Veil?
Before we worry about piercing the corporate veil, what is a corporate veil? Corporations and Limited Liability Companies (LLC) are given by the government the status of separate entities when they are created, just like a living breathing person, with most of the rights of any living person. The corporation or LLC can own assets and incur liabilities just like a person. This is different from sole proprietorships and partnerships where the owner and the business are considered one for purposes of financial or legal liability.
The “corporate veil”, as called by the courts, is the fictitious barrier that lies in between the stockholder of a corporation and the corporation OR the members of an LLC and the LLC. This symbolism harkens back to ancient times when curtains or “veils” were hung to denote a place of separation where only some could go. Think of many religions that have areas in their places of worship that only the religious leaders are worthy to go.
What is Piercing the Corporate Veil?
The act of “piercing the veil” is when the court “cuts through” the fictitious veil by its ruling to actually find the stockholder/member personal liability for actions or omissions of the business that the veil normally protects the stockholder/member from.
As a legally separate entity, corporations and LLCs have their own financial and legal liabilities, which if the business is sued over to collect a debt or punish for legal wrongs, cannot be brought against the stockholders/members.
But there are situations in which the court can find that the stockholder/member acted or omitted action in some way that rising to a level that the corporate veil needs to be pierced and that member help personally liable for the debt or legal wrong. This can also be known as “lifting the corporate veil” or “removing the corporate veil”. No matter what the court wants to call it, it is allowing the owner’s personal assets to be subject to liability.
When is Piercing the Corporate Veil Deemed Necessary?
There are really four broad cases in which the court might consider piercing the corporate veil:
- Fraud- there was some scheme to set up a false business in some attempt to make fraudulent deals simply to steal peoples and businesses money or possessions.
- Willful and wanton acts- the shareholder/member intentionally or with extreme lack of care acted in a way that egregiously harmed physically or financially an individual or segment of the population.
- Lack of separation- the owner omits actions that are required to keep the veil intact, like not keeping yearly meetings, not keeping detailed notes of meetings, not having operating agreements/articles of incorporation and bylaws.
- Voluntarily- when the owner does something to voluntarily give up the protections under the corporate veil. Example- signing a personal guarantee.
The concept of corporate veil is the essential element in creating limited liability in these business structures. In general, if the business is considered a completely separate entity from the owners, those owners can’t be held responsible for the corporation/LLCs’ actions. Because they are not liable, their personal assets are not at risk.
If the individual (or group) acts in some way listed above to rise to the level of the court’s involvement, the corporate veil may be pierced and the court finds that the individual’s liability exists beyond the normal limits.
It is also important to note that this could be from one or a few isolated actions that are so egregious, or they could be a pattern of several instances that alone doesn’t warrant piercing, but the totality does.
Examples of When You Might See Piercing the Corporate Veil
I often use my invented scenario, Bob Smith with a mowing business that is a sole proprietor. Today let’s say Bob has built the business up to a point where he is hiring employees and is seeing more possible liability issues that could arise. So now Bob has changed his business into a single-member LLC. And Bob gets sued…
How could Bob have his corporate veil pierced?
- Not filing for an EIN with IRS
- He is still co-mingling funds and not keeping business and personal money separate
- He is still co-mingling assets and not keeping separate
- He is failing to keep business records of business decisions, or even having required business meetings.
- Has committed fraudulent or criminal acts on his clients or his suppliers
- He has signed personal guarantees
- He has basically abused the veil afforded him by the government- when you don’t respect something you often lose it.
Piercing the Corporate Veil and State Laws
It is important that you understand your state’s laws on piercing the corporate veil as they vary state to state in how guarded the protection is by the courts. Obvious, extremely harmful, intentional, and egregious acts will likely be a piercing regardless of the state, but there are plenty of cases that likely would come out differently in different states.