"Piercing the corporate veil" refers to a situation in which courts set aside limited liability and hold a company’s investors or directors personally liable for the organization’s activities or debts. Corporate veil piercing is common in closed corporations. A key reason that business owners and managers choose to form a corporation or limited liability company (LLC) is so that they won’t be held personally liable for debts should the business be unable to pay its creditors.
Legal Doctrine
Under the doctrine of "piercing the veil of corporate fiction", the court looks at the corporation as a mere collection of individuals or an aggregation of persons undertaking business as a group, disregarding the separate juridical personality of the corporation unifying the group.
To hold a director personally liable for debts of the corporation, and thus pierce the veil of corporate fiction, the bad faith or wrongdoing of the director must be established clearly and convincingly. In Businessday Information Systems and Services, Inc. v. NLRC, it is noted that bad faith does not connote bad judgment or negligence. Bad faith imports a dishonest purpose, and bad faith partakes of the nature of fraud.
When the court or tribunal finds that circumstances exist warranting the piercing of the corporate veil, the corporate representatives are treated as the corporation itself and should be held liable for corporate acts. The corporation’s distinct personality is disregarded.
Legal Implications and Criteria
Piercing the corporate veil is an attack against the separateness of a corporate form from its owners that creditors will use to hold those owners accountable for the liabilities of the business. Florida law and case law from the Florida Supreme Court will allow the piercing of the corporate veil in circumstances where the corporation or company is not separate and distinct from its owners. This generally happens when the entity fails to follow certain corporate formalities that Florida law requires.
The corporate veil definition is a legal concept that separates the actions of an organization to the actions of the shareholder, protecting them from being liable for the company’s actions.
Moral Hazard and Legal Precedent
Piercing the corporate veil or lifting the corporate veil is a legal decision to treat the rights or duties of a corporation as the rights or liabilities of its shareholders. The objective of piercing the corporate veil is to clarify the doctrine and explore whether it effectively addresses the moral hazard problem of limited liability. Historically, it’s mentioned that in 1925, courts usually pierced the corporate veil to sanction a fraud or promote injustice.
The effectiveness of piercing the corporate veil is mostly observed in closed and small corporations which have limited shareholders and assets. Factors determining the Piercing of Corporate Veil include fraud done to third parties.