Corporations are understood to be legal entities separate and distinct from their shareholding owners. In day to day business matters it is the company’s assets that are at risk if any corporate liability arises. The owners and their private assets are thereby insulated from exposure to claims against the business. This is one of the essential reasons for incorporating a company in the first place. Aside from insurance, it is therefore the assets of the business that answer to any claims against the company. No corporate assets, no creditor recovery.
Piercing the Corporate Veil:
This reality has led many harmed plaintiffs to at least explore the possibility of recovering from the directors and officers, those in a position of direct control over the company’s actions and behaviour. This is known as “piercing the corporate veil”. It is not an easy task and certainly not done as a matter of course where the company is impecunious. It requires a unique factual underpinning to be successful. Further those facts must not only be alleged, but be capable of proof at trial.
Illegal, Fraudulent or Improper Purpose:
Piercing the corporate veil is not done lightly by the courts. They will do so only in specific cases of “bad” behaviour. The most common attack is to allege and prove that the company was incorporated for an illegal, fraudulent, or improper purpose. These are known as sham corporations. This might be done from the outset to shield the corporate controlling persons from liability despite their “bad” conduct or be done afterwards for the same purpose following some potential exposure.
Those in control act illegally:
The veil can also be lifted where those in control act illegally or for their own personal benefit to the detriment of both the company and the wronged party. That means the courts will disregard the separate legal personality of the corporation where it is completely dominated and controlled by the target bad actors that are using the company to shield themselves from their fraudulent or improper conduct.
The guiding test used by the courts is found in the Ontario Court of Appeal’s decision in 642947 Ontario Ltd. V. Fleischer where at page 417 Appellate Judge Laskin stated:
Typically, the corporate veil is pierced when the company is incorporated for an illegal, fraudulent or improper purpose. But it can also be pierced if when incorporated “those in control expressly direct a wrongful act to be done”.
A Possible Third Ground:
A possible third ground for piercing the corporate veil is found in another Court of Appeal decision Lynch v. Segal.
Here, the appeal court affirmed the trial judge’s decision that the veil can be pierced where the company and the individual are really one and the same. This is where the shares are owned by the individual and so essentially are the assets the company owns.
In that case, the individual was not using or operating the companies as a business but rather erecting a corporate wall to shield the assets from his creditors. This was a family law case and the courts were no doubt influenced by the supposed “inability” to pay financial support to his wife and children. Still, the principle remains as another possible method of attack even outside of a matrimonial dispute.
- If you are a director or officer of a company, you must act in good faith and solely for the benefit of the company. In that way your incorporation continues to protect you. However, if you engage in misconduct, fraud or otherwise act for your own personal benefit, that protection may vanish to your detriment.
- Alternatively, if you are a plaintiff facing an impecunious company run by bad actors you should consider attempting to pierce the corporate veil. Should you be successful, you will be able to use the bad actors’ personal assets to satisfy your damage claims;
- Although each case is unique, the tell-tale signs are:
- No operating business;
- Assets are for the benefit of the shareholder;
- Transferring property below fair market value to “friends”
- Sudden incorporation in the midst of trouble.
The exceptional team of Toronto corporate commercial lawyers at Milosevic & Associates regularly represent clients in complex commercial litigation matters ranging from straightforward contract and partnership disputes, to complex multi-party commercial claims. We can provide you with advice and guidance suited to your unique situation. Call us at 416-916-1387 or contact us online to learn more about how we can help.