Part 10- Corporations, Chapter 41: History and Nature of Corporations, Doc 4 | Indiana University Bloomington - Edubirdie

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Indiana University Bloomington
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Financial and Managerial Accounting: Information for Decisions - John J. Wild
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2024
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1
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bratrochanter

Piercing the corporate veil is a judicial action where courts disregard the separate legal entity of a corporation to hold its shareholders personally liable. This approach is generally applied in cases of shareholder dominance and improper purpose, such as fraud or the misuse of the corporate structure. Examples include evading laws, defrauding creditors, or circumventing contractual obligations. Key cases illustrate scenarios where courts are willing, or reluctant, to pierce the veil: 1. Circumventing Statutes or Obligations: Courts may pierce the veil when corporations manipulate their structure to bypass legal responsibilities. For instance, a corporation might create a subsidiary to sidestep a regulation— such as a Sunday closure law—by alternating business operations between entities. Courts would see this as an improper use of the corporate structure and impose liability on both entities. 2. Defrauding Creditors and Thin Capitalization: Courts often find a corporation's insufficient initial capital (thin capitalization) as evidence of fraud against creditors. By providing minimal capital and issuing shareholder loans secured by corporate assets, shareholders elevate their claims above general creditors. In such cases, courts may subordinate shareholder loans to creditor claims. 3. Transfers at Below Fair Market Value: Courts are likely to pierce the veil when transactions within affiliated corporations, especially between a parent and a subsidiary, transfer assets at unfair prices, thus depleting the subsidiary’s resources. In these cases, creditors can pursue assets across both corporations. In Hildreth v. Tidewater Equipment Co., the Maryland Court of Appeals addressed whether John Hildreth, as the sole shareholder of HCE-NJ, could be held personally liable for the corporation’s debt to Tidewater Equipment. Although HCE-NJ failed to register as a foreign corporation in Maryland, the court concluded that this technical violation did not justify piercing the corporate veil because there was no fraud, commingling of assets, or shareholder abuse of the corporate form. HCE-NJ had a distinct existence with its own operations and assets, and Tidewater knew it was dealing with a corporation, not Hildreth individually. Overall, veil-piercing is based on equitable principles and is applied sparingly, generally where maintaining corporate separateness would result in injustice. Courts assess various factors, including whether a corporation was used as a mere façade, whether formalities were observed, and whether ignoring the corporate entity would protect or harm third parties.

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