Piercing the Corporate Veil

When you form a company or close corporation it is presumed that you and your personal assets, will be protected from any corporate liability.

This is one of the main features of a legal entity; to provide limited liability. Creditors of the company or CC can usually enforce their claims only against the company or CC itself. Of course, if a person has signed a suretyship for the debts of the company or CC, then he or she is personally liable on the basis of that suretyship.

However when you take certain actions, or fail to take certain actions, you risk losing that protection. That is called piercing the corporate veil.

One of the most important situations in which the law imposes such personal liability is where the company or CC has carried on business with intent to defraud its creditors, or has carried on business recklessly by incurring debts without reasonable grounds to believe that it will be able to pay those debts as and when they fall due.

Plaintiffs often “join” the directors or members as co-defendants with the company or CC for tactical reasons. Nobody enjoys being personally involved in a lawsuit and a director or member, who is joined as a co-defendant with the company may feel under great pressure to negotiate and settle, rather than be personally enmeshed in litigation which can be damaging to one’s reputation (not to mention hard on the bank balance).

Sometimes the reason why individual directors or employees are joined as co-defendants with the company is to get around some contractual provision which binds the company. For example, if a company has signed a contract which has a clause stating that disputes must be settled by arbitration and not by litigation, the plaintiff may try to sue the directors and employees personally, so as to evade the arbitration clause and force those directors or employees to submit to cross-examination in a court of law.

In short, no director of a company or member of a CC has a cast-iron guarantee that he or she will never be held liable for the company’s or the close corporation’s debts. Either their own company or CC can take action against them for that misconduct, or in certain circumstances, an outside party may be entitled to take action against them.

So, be careful when transacting on behalf of a legal entity and remember: IGNORANCE OF THE LAW IS NO EXCUSE!