May a Principal Officer be Held Liable for Corporate Actions?

Should a principal corporate officer be able to avail himself of the corporation’s liability shield which would protect his personal assets from suits arising from actions taken in his corporate capacity? When should a principal officer be held liable for the actions of a corporation based on the principle that the corporation is merely a façade in order to protect the officer from personal liability? These questions were addressed in the recent New York case, Deborah S. Carlone v. The Lion & The Bull Films, Inc. et al., 10 Civ. 6275 (S.D. N.Y. Apr 30, 2012).

The initial holding in that case was that the corporate defendant, L&B Films (“L&B” or “Defendant”), breached its contract with the plaintiff, Deborah Carlone (“Carlone” or “Plaintiff”). The factual basis of that holding was as follows. Plaintiff lent $115,000.00 to L&B for the purpose of making a motion picture. The loan needed to be made rapidly, without the normal document review. As an incentive, L&B promised Carlone that the principal loan amount of $115,000.00 would be repaid within 30 days, along with an additional $185,000.00.

Plaintiff brought suit against the Defendant because she had not received any of the repayment. Carlone prevailed against L&B Films in her claim for breach of contract. Accordingly, she was awarded $300,000.00 plus prejudgment interest. Subsequently, Carlone sought to hold Mr. Luna, the principal officer, director and 50% shareholder of L&B, personally liable for the judgment by piercing the corporate veil.

New York law establishes two requirements for piercing the corporate veil and thus holding an individual liable for corporate action:

1) the owner exercised complete domination over the corporation with respect to the
transaction at issue; and

2) such domination was used to commit a fraud or wrong that injures the party seeking
to pierce the veil.

MAG Portfolio Consultant, GMBH v. Merlin Biomed Group LLC, 268 F .3d 58 (2d Cir. 2001).

Courts consider the following factors when determining whether it is appropriate to pierce the corporate veil:

1) the absence of the formalities and paraphernalia that are part and parcel of the corporate existence, i.e. issuance of stock, election of directors, keeping of corporate records and the like;

2) inadequate capitalization;

3) whether funds are put in, and taken out of, the corporation for personal rather than corporate purposes;

4) overlap in ownership, officers, directors, and personnel;

5) common office space, address and telephone numbers of corporate entities;

6) the amount of business discretion displayed by the allegedly dominated corporation;

7) whether the related corporations deal with the dominated corporation at arms-length;

8) whether the corporations are treated as independent profit centers;

9) the payment or guarantee of debts of the dominated corporation by other corporations in the group; and

10) whether the corporation in question had property that was used by other of the corporations as if it were its own.

William Passalcqua Builders, Inc. v. Resnick Developers South, Inc., 933 F. 2d 131, 139 (2d Cir. 1991).

The District Court applied the factors set forth above to the facts of this case. L&B Films was exceedingly undercapitalized, having only $50.00, when it was formed. Other than the money it had
received from the Plaintiff, the corporation had no other assets nor did it conduct any other business during its existence. Additionally, it did not have corporate headquarters; it conducted business out of Luna’s residence. The sole officers of the corporation were Luna’s and his partner Mr. Pereyra. The meetings between them were informal; there were no formal board meetings at which minutes were kept. There was no evidence of any exercise of discretion by L&B that was independent of Luna’s discretion. Furthermore, Luna used his control of L&B to effect the entering into the agreement with the Plaintiff.

On this basis, the Court held that it was proper to pierce the corporate veil in order to hold Luna personally liable for the award against L&B Films because Luna completely controlled and dominated the corporation.

Creating a corporate entity will not always protect you from being personally liable for corporate actions. It is important to keep Carlone factors in mind when conducting business through an entity.

Comments/Questions: gdn@gdnlaw.com