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Legal Notes Blog > March 2017 > COLLECTING JUDGMENTS FROM LLCs: PEIRCING THE CORPORATE VEIL

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COLLECTING JUDGMENTS FROM LLCs: PEIRCING THE CORPORATE VEIL

 By: Joseph R. Johnson and Tyler Helsel

            In recent years, limited liability companies (LLC’s), have become the default entity for business owners.   In fact, per the Wisconsin Department of Financial Institutions website, 34,067 new LLC’s were formed in 2016 and already 2017 is 7.0% ahead of that pace.[1]   With LLC’s coming to dominate the business landscape, a question we often get from our clients is what options are available for collecting against an LLC, particularly one that has minimal or no assets. 

            One option available to creditors to satisfy a judgment is to pierce the corporate veil to reach the assets of the owner and/or members of the LLC.  However, as noted below, a creditor cannot pierce the corporate veil just because an LLC owes a debt and has insufficient assets to satisfy said debt.  There is a strong presumption that the members or owner of an LLC cannot be held liable for acts of the LLC.  So what must a creditor do to overcome that presumption?

           The first prevalent corporate veil case in Wisconsin is Milwaukee Toy Co. v. Industrial Com. of Wisconsin, 203 Wis. 493 (1931).  In that case, the court stated the corporate veil could be pierced if leaving the veil intact “would accomplish some fraudulent purpose, operate as a constructive fraud, or defeat some strong equitable claim.” Id. at 496.  

           Today, to determine whether the corporate veil can be pierced, a plaintiff must overcome the burden of the alter-ego test, with Consumer’s Co-op v. Olsen being the lead case. 142 Wis. 2d 465.  In Consumer’s Co-op, a corporation owned by Olsen took out a substantial line of credit with the plaintiff.  Id. at 471.  The plaintiff sought to impose liability on Olsen for the debt of the corporation.  

           The Consumer’s Co-op court held that the corporate veil may be pierced only when the “corporate fiction would accomplish some fraudulent purpose, operate as a constructive fraud, or defeat some strong equitable claim.” Id. at 475.  When considering what fraud is, courts are to look at factors such as undercapitalization and lack of corporate formalities. Id. at 478-85.  In Consumer’s Co-op the court used the “alter ego” approach, where “corporate affairs are organized, controlled, and conducted so that the corporation has no separate existence of its own and is the mere instrumentality of the shareholder and the corporate form is used to evade an obligation, to gain and unjust advantage or to commit an injustice.” Id. at 476.  The court looked at various factors in making its determination.  First, the court stated that undercapitalization is an important factor in determining if a fraud has occurred. Id. at 477.  The court analyzed capital at the time and formation of the corporation to determine if it is fraudulent. Id. at 486.  For example, if capital is rapidly increased immediately prior to the opening of a store at the formation of the corporation, this is likely to purchase the building or some other business asset.  In Consumer’s Co-op, the initial capital was small, and was to start the corporation. Id. at 491. The increases thereafter did not suggest something inappropriate was occurring.  Id. at 491-92. 

            Additionally, corporate formalities are an important factor when analyzing fraud.  Id. at 484. When determining formalities, courts will look to three factors: (1) control of finances and other transactions that are not separate in mind or will from the defendant and the corporation; (2) that control is used in a fraud; and (3) the fraud caused an injury or unjust lost.  Id.  In Consumer’s Co-op, the court held that the defendants had adequate corporate formalities: stock was issued, officers were elected, meetings were held and records of meetings kept, and all business interactions were undertaken under business name.  Id. at 488.  This evidenced corporate control of finances and business transactions. Id.  As such, the court declined to pierce the corporate veil in Consumer’s Co-op. 

             In addition to the specific factors above, courts are to look at the totality of all factors to determine if a plaintiff should be permitted to pierce the corporate veil.  Michels Corp. v. Haub, 2012 WI App 106, ¶20.  In Haub, the court held that control, sophistication, and corporate procedures on their own may not be sufficient to pierce the corporate veil, taken together are more than sufficient to show the Consumer’s Co-op test.  Id., ¶20.  The court further held that the facts supported the notion that the defendant had exclusive control of the finances, was the corporation’s president and sole employee, and had sole authority within the corporation.  Id., ¶19.  Additionally, the corporation had separate tax returns and bank accounts, but the defendant moved substantial funds from the business accounts to personal accounts of the defendant.  Id., ¶¶24-25. As the Court in Consumer’s Co-op stated, the court is to look at “reality and not form.”  Id., ¶23.  Although separate accounts give the form of separation, complete control and moving funds to private accounts does not give the reality of separation.  Id., ¶25. 

             In Sprecher v. Weston’s Bar, the court held that the corporate veil should be pierced. 78 Wis. 2d 26, 39 (1997).  The defendant held no corporate meetings nor maintained any records, the corporation had no substantial assets, and the defendant took out all corporate profits as salary. Id. at 38-39.  The defendant even used the corporate bank account as a personal checking account. Id.  There, the court stated the corporate veil could be pierced. Id.  

Overall, there is a strong presumption against piercing the corporate veil and creditors should be cautioned that piercing is not a “magic bullet” that can be used to collect on every LLC that lacks the assets to satisfy a judgment.  However, if through investigation, discovery, and/or supplemental examinations, a creditor learns or has reason to believe that the LLC is simply an alter ego of its owner, piercing can be an effective tool to collect.



[1] www.wdfi.org

Posted: 3/14/2017 11:34:29 AM by Tom Connor | with 0 comments


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