Indiana Business Law Blog

Last November I wrote about a new law that expanded the requirement to issue Form 1099 to include reporting of payments made to corporations and to suppliers of goods. The law was set to go into effect for payments made in 2012. In January I wrote that Representative Dan Lungren (R. California) had introduced a bill to repeal the new requirement. On April 14, President Obama signed Congressman Lungren's bill into law, eliminating the expansion of the reporting requirements.

Everyone knows when individual tax returns (Form 1040 or one of its variations) are due. Today. April 15. Right? Not this year! This year individual tax returns are not due until Monday, April 18.

That's because of the "Saturday, Sunday, holiday rule," which says that if April 15 falls on a Saturday, a Sunday, or a legal holiday, Form 1040 is due on the next day that is not a Saturday, Sunday, or legal holiday. You might not have known that April 16 is Emancipation Day, a legal holiday in Washington, D.C. that commemorates the signing of the Compensated Emancipation Act by Abraham Lincoln on April 16, 1862. But this year, April 16 falls on Saturday, so Emancipation Day is being celebrated on Friday, April 15. Therefore, Form 1040 is not due until Monday, April 18.

By the way, if you make quarterly estimated tax payments, that's not due until Monday either.

In my last entry, I discussed the corporate veil and the protection it provides to individuals who own LLCs or have stock in corporations. Corporate veil piercing only becomes an issue when the LLC or corporation does not have enough financial assets to pay a creditor and that creditor wants to find another way to satisfy that debt. To that end, a creditor may try to persuade a court that the business's corporate veil should be pierced, allowing the creditor access to the owner's personal assets. Most of the time, it won't work, but in some circumstances it will. Here are the factors that tend to justify piercing the corporate veil.

• The business is undercapitalized


• The owners have made fraudulent representations


• The owners have used the business to promote fraud, injustice or illegal activities


• The assets of the business have been used to pay the obligations of the owners


• The owners have commingled their own assets and affairs with those of the business


• Business or corporate records are absent


• The owners have failed to observe required corporate formalities


• The owners have otherwise ignored, controlled, or manipulated the corporate entity

Before I dive into the details of each factor, it's important to note that Indiana courts consider veil piercing to be extremely fact sensitive. In other words, judges look at these issues and base their decisions on the very specific facts of each particular case. In one case, the court may not permit the veil to be pierced despite the presence of several factors. In another case, the presence of even one factor may justify piercing the veil. That means that a prudent business owner needs to keep all of them in mind. That said, let's get on with it.

The first factor is undercapitalization, which has been defined by the courts as "capitalization very small in relation to the nature of the business of the corporation and the risks attendant to such business." Of course, almost anytime a creditor tries to piece the corporate veil, the business is, in one sense, undercapitalized because if the business had enough money to pay the creditor, there would be no need to pierce the veil. So the question is not whether the business is undercapitalized when the veil-piercing lawsuit is filed, but whether it was properly capitalized to begin with. The policy underlying this factor may be the notion that business owners should place at least a reasonable amount of capital at risk. As far as these factors go, undercapitalization is a fairly weak one. Taken alone, it is seldom if ever enough to justify piercing the corporate veil. Often, it will be raised as a minor factor where other, stronger considerations are present. Even so, one way small business owners can protect themselves is to make sure the business is not undercapitalized.

The next two factors are related, and they play a significant role in many veil-piercing cases. Both of them deal with fraud. Indiana courts do not have much sympathy for individuals who use a LLC or corporation to perpetrate fraud and it is highly likely they will pierce the corporate veil if there is evidence of fraudulent business activities. Fraud can include misrepresenting facts about the company to customers or other third parties. For instance, making statements you know are false or otherwise misleading someone to induce them to enter into an agreement with your business could be considered fraudulent misrepresentation.

Sometimes however, what is legitimate in one situation is fraudulent in another. Consider two LLCs that are have a common owner. In most circumstances, if the owner wants to move assets from one of the LLCs to the other, it's perfectly legitimate to do so, assuming the owner keeps the books straight and pays any taxes that might be triggered by the transfer. Now imagine that the owner realizes that one of the LLC's is about to be sued and decides to transfer all the assets owned by that LLC into the other. That attempt to use the LLCs to hide assets from creditors can be (and has been) deemed fraudulent and used as a reason to pierce the corporate veil.

So the second and third ways business owners can avoid becoming personally liable for the obligations of the business are to avoid making fraudulent representations and to avoid using the business for fraudulent, unjust, or illegal activities. We'll cover the other factors in the next entry in this series.

Continue reading "Veil Piercing Part TWO: A few ways to protect your business from having its corporate veil pierced in Indiana" »

This is the first of a series of occasional blog entries dedicated to explaining how Indiana courts deal with the "corporate veil" and "veil piercing" and what small business owners can do to protect themselves from being personally liable for the debts and obligations of the business.

"Corporate veil" is a phrase used to describe the liability shield between the owner of a company and the company itself, and, as the name implies, it originated in the context of corporations. Without the corporate veil, corporations could not raise capital by selling stock to investors, and modern stock exchanges could not exist. Imagine that you buy $10,000 worth of a corporation's stock through an online stock broker, maybe the one with those talking baby commercials, hoping to collect some small dividends for a few years, then sell the shares at a nice profit. Now imagine that one day an envelope appears in your mailbox, but instead of a quarterly dividend check, it contains a letter from the company's creditors saying that the company does not have enough money to pay its bills and that, for your convenience,they have enclosed an envelope that you may use to mail in payment of your share of the corporation's debt, which comes to $75,633. And 27 cents. No personal checks, and the post office will not deliver mail without a stamp.

I suspect that would be the last stock you'd ever buy.

The reason that doesn't happen is the corporate veil. Even if a corporation's stock becomes worthless, the shareholder's loss is limited to the money he or she invested in the stock. The shareholder's other assets -- the house, the car, the checking account, the baseball card collection, and the family dog -- are safe from the corporation's creditors. And that's true not only for the shareholders of large, publicly traded corporations; it's also true for the owners of the smallest incorporated businesses. Furthermore, as a previous blog entry explained, the same type of corporate veil prevents the creditors of a limited liability company from reaching the assets of the LLC's members.

At least, that's the way it works most of the time. However, sometimes, in certain circumstances, a court may allow the creditors of the LLC or corporation to reach through the corporate veil and to collect directly from the business owners. That's called "piercing the corporate veil," and one time it can happen is when the owner has used the company to perpetrate fraud. A future entry will discuss in more detail the circumstances that can lead to veil piercing.

But before we get there, business owners need to remember one other limitation of the corporate veil -- it does not protect them from their own liability. That commonly arises in one of two different ways. First, imagine of a group of engineers who start their own engineering firm and organize it as a limited liability company. If one of the owner-engineers negligently makes a mistake on a design project, that particular owner-engineer can be held liable -- not because he or she is an owner of the LLC, but because he or she is the engineer who made the mistake. In addtion, the LLC will also be liable (at least in most cases), but the personal assets of the other owner-engineers will be protected by the corporate veil. (Hopefully, the owners will have heeded my earlier advice to get a good insurance broker, and the LLC will have an errors-and-omissions policy to cover the liabilty of both the LLC and the negligent engineer.)

The second common way that a member of a limited liability company becomes liable for the obligations of the LLC is when the member contractually assumes the obligation. For example, banks and other lenders often will not extend a loan to a small LLC unless the members sign a personal guaranty that obligates them to repay the money if the LLC doesn't. In those situations, the corporate veil does not prevent the lender from reaching the personal assets of a member-guarantor.

Watch for my next entry on this topic to learn about what you can do to protect your company from having its corporate veil pierced. (Sounds painful, doesn't it?)

Continue reading "Veil Piercing Part ONE: What is the "corporate veil" and can it be "pierced" under Indiana law?" »