by JAY GIRVIN, Esq., Girvin & Ferlazzo. P.C., Albany, NY
- Can a shareholder or officer ever be held personally liable for the debts or liabilities of a corporation?
Most people (or groups of people) who engage in commercial business ventures choose to do so through a corporation, a limited liability company, or other form of business entity authorized under New York law. Once duly formed, corporations are treated as separate legal entities existing independently from their shareholders (the owners) and officers. Given this separate legal existence, one of the primary benefits of doing business through a corporate entity is the general rule that individual shareholders and officers are usually not personally liable for the debts and liabilities of the corporation. As a result, individuals conducting business through a corporation may usually do so without placing their personal assets at risk.
Like any other general rule, however, there are certain limited exceptions where shareholders or officers may in fact find themselves personally liable for the debts or liabilities of the corporation. One such situation is somewhat obvious but often overlooked — a person, including a shareholder or officer, can be held liable for the debts of a corporation if he or she has agreed that he or she may be held personally liable. This situation most often arises when an individual agrees to act as a co-borrower or guarantor of a loan or other extension of credit given to the corporation. For example, a bank may decline to issue a line of credit to a corporation (especially a newly formed one) unless a separate individual personally guarantees repayment. If the corporation defaults on repayment, the bank may pursue a claim against both the corporation and any individual co-borrower or guarantor.
A second situation may occur where a plaintiff persuades a court that grounds exist to “pierce the corporate veil” and impose personal liability against a shareholder for debts or liabilities of the corporation. Conducting business through the corporate form is considered to be a privilege — and if that privilege is abused, courts may disregard that corporate form and impose liability directly against corporate shareholders. A plaintiff who asks the court to pierce the corporate veil bears a very heavy burden, since doing so negates one of the primary protections associated with doing business through a corporation. While very dependent on the specific facts and circumstances of the case at hand, courts have generally recognized two grounds on which the corporate veil may be pierced and individual liability imposed on shareholders. First, a court may impose individual shareholder liability where a plaintiff shows that the shareholder exercised complete domination over the corporation with respect to the transaction at issue, and that such domination was used to commit a fraud or other wrong against the plaintiff. Second, and even in the absence of fraud, a court may pierce the corporate veil where corporate formalities have been disregarded to the point where there is little, if any, distinction between the corporation’s business affairs and the shareholder’s personal affairs. This latter ground is often invoked where the shareholder runs his personal business through the corporation (payment of personal mortgage, etc.), uses corporate funds for personal purposes, co-mingles personal assets with corporate assets, fails to keep separate accounts and records, and/or under-capitalizes the corporation.
Third, under New York law a corporate officer may be held individually liable for his or her personal participation in the corporation’s affirmative commission of a tortuous act (i.e., a civil wrong) by “malfeasance” or by “misfeasance,” although not by “nonfeasance.” Thus, a corporate officer may be held personally liable for affirmative wrongful acts taken on behalf of the corporation (such as misrepresentation or fraud), but generally not for negligent acts (such as a failure to act).
Fourth and finally, many federal and state statutes provide for personal liability on behalf of shareholders and/or officers for certain obligations of a corporation. By way of only one example, New York’s Labor Law provides that certain owners or officers may be held personally liable if they knowingly participate in a corporation’s failure to pay its workers the prevailing wages and supplements due by law.
While the prevailing rule in New York is that owners and officers are generally not liable for the debts and obligations of a corporation, there are certain situations in which individuals may nevertheless find themselves subject to personal liability for claims made against the corporation.