While incorporating a business protects the owner from being held personally liable for company debts, the opposite is also true. The corporate veil prevents creditors from seizing company assets to satisfy the personal debts of the business' owners. However, sometimes a creditor can successfully pierce the veil and hold the company liable for debts incurred by its owner. Here's two ways this can happen.
The Alter Ego Doctrine
One way creditors may reverse pierce the corporate veil is by proving the company is merely an alter ego of the shareholder/owner. In law, an alter ego is generally defined as a corporation that's solely set up so that the owners may conduct personal business while enjoying the protections the business setup provides. For instance, a shareholder uses the company's name and credit to purchase a home and vehicles for personal use.
However, courts have also ruled a corporation may be regarded as an alter ego if the person who owns it dominates and controls the entity to such an extent that it becomes difficult to tell where the individual ends and the company begins. This can occur when the owner fails to maintain the required arms-length distance in transactions conducted by the company.
In either case, the creditor would have to show there is insufficient separation between the corporation and the individual to prevail in court. If the business owner used the company credit cards to pay personal expenses, for instance, the creditor could submit that as evidence the debtor is using the company as an alter ego and ask the court to lift the veil protecting the corporation's assets.
The Veil is Hiding Fraud or Injustice
Another way a creditor may convince the court to disregard the corporate shield protecting its assets from its owner's liabilities is if the entity is being used to perpetuate fraud or continuing to observe the veil would result in great injustice against the creditor.
For example, a business owner uses the corporation to rack up tens of thousands of dollars of debt, money that was spent on personal items and projects. The owner then files business bankruptcy to eliminate the debt. The creditor may allege fraud because it may appear obvious the debtor was using the corporation to avoid being held liable for what are essentially personal debts.
The corporate veil is a complex legal subject, and protecting it from creditors typically involves a lot of legal footwork. If you are having debt problems and want to protect your company from your creditors, contact an attorney, like Dennis Lee Burman Attorney at Law, for advice on how best to handle your situation.Share