It is a basic principle of corporate law that shareholders should not be responsible for a corporation’s liabilities and similarly, one corporation cannot be liable for another corporation’s debts. The purpose is to encourage risk-taking and entrepreneurship. There is enough risk in putting money into an enterprise, without the additional risk of being liable for the liabilities of the enterprise if it failed. But there are limited circumstances in which the corporate form does not provide a shield from liability – when the corporation is held to be the “alter ego” of the stockholder or other corporations, a doctrine that is commonly referred to as piercing the corporate veil. Most states have similar tests for establishing the alter ego doctrine with one important distinction, discussed below.
There are several versions of piercing the corporate veil. Standard alter ego doctrine is employed to seek the assets of an individual to pay a judgment against a corporation. But reverse piercing the corporate veil involves allowing creditors to seize a corporation’s assets to satisfy a judgment against an individual. Horizontal piercing the corporate veil applies to companies under common control and functioning as one enterprise, making all liable for the debts of any one.
In determining whether to invoke the alter ego doctrine, courts look to a number of factors in analyzing whether there is a “unity of interest and ownership” between various entities and/or individuals such that any separation is merely fictional. These factors include:
commingling of assets;
an individual’s treatment of corporate assets as his own;
the disregard of corporate formalities such as board meetings, minutes and other corporate records;
sole ownership of stock in different companies by one individual or family;
employment of the same employees or attorney by different companies;
use of a shell corporation that was insolvent or undercapitalized;
use of the same office or location for different corporations;
shifting liabilities and/or assets from one enterprise to another; and
the failure to maintain an arms-length relationship among related entities.
Different states have slightly different versions of the alter ego doctrine.
California
California courts consistently apply a two-part test for piercing the corporate veil under the alter ego doctrine. First, “there must be such a unity of interest and ownership between the corporation [or LLC] and its equitable owner that the separate personalities of the corporation [or LLC] and the shareholder [or member] do not in reality exist. Second, there must be an inequitable result if the acts in question are treated as those of the corporation [or LLC] alone." Blizzard Energy, Inc. v. Schaefers, 71 Cal. App. 5th 832, 849 (2021). See also Toho-Towa Co., Ltd. v. Morgan Creek Productions, Inc., 217 Cal. App. 4th 1096, 1106-07 (2013) (“Where a corporation is used by an individual or individuals, or by another corporation, to perpetrate fraud, circumvent a statute, or accomplish some other wrongful or inequitable purpose, a court may disregard the corporate entity and treat the corporation's acts as if they were done by the persons actually controlling the corporation......”); Hotels Nevada, LLC v. L.A. Pacific Center, Inc., 203 Cal. App. 4th 336, 358-59 (2012) (there must be such a “unity of interest and ownership that the individuality, or separateness, of such person and corporation has ceased”).
“No single factor is determinative, and instead a court must examine all the circumstances to determine whether to apply the (alter ego) doctrine . . . .” Blizzard, 71 Cal. App. 5th at 849. In Blizzard, the court found ample evidence of a unity of interest between a corporation and a married couple: the couple owned 50% of the corporation and the husband used the corporate assets as his personal piggy bank, routinely transferring funds to his personal account. However, the court found that there would be an inequitable result because the (soon to be ex) wife was an innocent third-party and veil piercing would be an injustice to her. Id., at 850-54. In Toho-Towa, three separate corporations functioned as a single enterprise and it would be inequitable to allow them to escape debts incurred by one of the corporations to the plaintiff. 217 Cal. App. 4th at 1106-10. California does not require proof of fraud in order to invoke the alter ego doctrine, only that “an adherence to the fiction of the separate existence of the corporation would, under the particular circumstances, sanction a fraud or promote injustice . . .” [citation omitted]. Hotels Nevada, 203 Cal. App. 4th at 359 (affirming finding of arbitrators that Hotels Nevada was influenced and governed by one individual and respondent was harmed as a result; also holding that Nevada followed California law). See also Misik v. D’Arco, 197 Cal. App. 4th 1065, 1068 (2011) (California Code of Civil Procedure § 187 authorized trial court to amend judgment to add debtor who was alter ego of corporate defendant; evidence of fraud was not required, only that adherence to fiction of separate existence would promote injustice).
Delaware
Delaware, as well as other states, follows the same general standard with one significant twist: the alter ego doctrine is invoked only when there is evidence of fraud, not simply an inequitable result. See Cleveland-Cliffs Burns Harbor LLC v. Boomerang Tube, LLC, No. 2022-0378-LWW, 2023 WL 5688392, at *5 (Del. Ch. Sept. 5, 2023) (in parent-subsidiary context, piercing the corporate veil requires showing that the subsidiary existed as a sham “for no other purpose than as a vehicle for fraud”); Mason v. Network of Wilmington, Inc., No. 19434-NC, 2005 WL 1653954, at *3 (Del. Ch. July 1, 2005) (Delaware courts “require an element of fraud to pierce the corporate veil,” citing Wallace ex rel. Cencom Cable Income Partners II, L.P. v. Wood, 752 A.2d 1175, 1184 (Del. Ch. 1999)).
In Mason, the plaintiff alleged that she was unable to collect on an employment discrimination because the individual owner of the corporation had transferred funds to another entity, and that therefore the owner should pay the judgment pursuant to the alter ego doctrine. While describing plaintiff’s predicament as “unfortunate,” the court remarked that “[P]ersuading a Delaware Court to disregard the corporate entity is a difficult task.” Here, the evidence did not show that her employer had been under-capitalized or that corporate formalities were not followed; the mere fact that the individual ran two separately incorporated entities out of the same building “did not show fraud or sham (or support any inference to that effect).” 2005 WL 1653954, at *2-4. See also EBG Holdings LLC v. Vredezicht’s Gravenhage 109 B.V., No. 3184-VCP, 2008 WL 4057745, at *11-12 (Del. Ch. Sept. 2, 2008) (Delaware applies alter ego theory “rather strictly” and courts generally only disregard corporate entity “when such matters as fraud, contravention of law or contract, public wrong, or equitable considerations” are involved; here, no showing that subsidiary constituted a sham and existed only as vehicle for fraud); ECB USA, Inc. v. Savencia, S.A., No. 19-731-GBW-CJB, 2025 WL 254504, at *2-7 (D. Del. Jan. 16, 2025) (alter ego theory not applicable where no showing corporate form was misused for fraud or improper purpose).
Conclusion
The alter ego doctrine is an important legal concept that prevents a judgment debtor from hiding assets behind a sham corporate façade. But if there is a choice, California is a preferable venue to Delaware in seeking to invoke the doctrine.
For more information regarding Alto Litigation’s litigation practice, please contact one of Alto Litigation’s partners: Bahram Seyedin-Noor, Bryan Ketroser, Joshua Korr, or Kevin O’Brien.
****
Disclaimer: Materials on this website are for informational purposes only and do not constitute legal advice. Transmission of materials and information on this website is not intended to create, and their receipt does not constitute, an attorney-client relationship. Although you may send us email or call us, we cannot represent you until we have determined that doing so will not create a conflict of interests. Accordingly, if you choose to communicate with us in connection with a matter in which we do not already represent you, you should not send us confidential or sensitive information, because such communication will not be treated as privileged or confidential. We can only serve as your attorney if both you and we agree, in writing, that we will do so.
The materials on this website are not intended to constitute advertising or solicitation. However, portions of this website may be considered attorney advertising in some states.
Unless otherwise specified, the attorneys listed on this website are admitted to practice in the State of California.