For liability purposes, the law treats a corporation—whether for profit or nonprofit—as a separate and independent legal entity. Consequently, a corporation’s liability for its debts and obligations is generally limited to that single entity’s own resources, and not those of its owners, leaders, affiliated organizations, or parent corporation. This legal separation of liability between a corporation and others (whether they be individuals or other entities) is often referred to as the “corporate veil.” The protection available through the corporate veil provides a powerful incentive to utilize corporations to carry out activities, rather than through unincorporated associations or partnerships where participants may be held jointly and severally liable for all injuries or liabilities resulting from their organization’s activities.[1] To maintain such corporate liability protection, however, those in charge must properly operate through the corporation.
When such corporate operational compliance is absent or minimal, a court may disregard the general corporate veil principle and hold an individual, affiliated organization, or parent corporation responsible for the corporation’s liabilities, notwithstanding the corporation’s separate legal status. In such cases, a court may find that the corporate entity at issue is merely an “alter ego” of a person or other legal entity – that is, indistinguishable from the other and thus render another party liable. This legal imputation of liability is known generally as the “piercing the corporate veil” doctrine. Piercing the corporate veil is an equitable remedy used by courts to impose personal liability on otherwise protected directors, officers, shareholders, or other affiliated entities for a corporation’s wrongful acts. Correspondingly, piercing the corporate veil is a practical solution courts employ to promote fairness and justice under the immediate circumstances.
This article further addresses the corporate veil piercing problem and related liability considerations in five parts, as particularly relevant for nonprofit corporations:
1. the historical basis for limited liability and the doctrine of piercing the corporate veil;
2. nonprofit-related LLC usage;
3. notable legal trends;
4. specific nonprofit case examples of piercing the corporate veil; and
5. lists of factors favoring and disfavoring piercing the corporate veil, with accompanying best practices guidance.
Brief Historical Primer on Limited Liability and Piercing the Corporate Veil
Limited corporate liability likely evolved with the United States’ adoption of English common law. American courts first used the concept as a feature for “infrastructural projects” such as railroad development.[2] Its use expanded throughout the industrial revolution, resulting in most jurisdictions using limited liability in some form to help incentivize industrial development and a competitive economy.[3] But like with many incentives, people found ways to stretch the original purpose of limited liability and used it to shield themselves individually from any consequence for their wrongdoing.[4]
The legal doctrine of piercing the corporate veil aimed to curb corporate abuse. In other words, it aimed at ensuring that people who engaged in nefarious business practices were not only held liable via their business but also personally.[5] At its core, piercing the corporate veil requires a court find “complete control and domination [and]. . . a shareholder [or other party] perpetuating fraud, wrong, or injustice that has proximately caused unjust loss or injury to the plaintiff.[6] As courts have attempted over time to balance the legislative goal of safeguarding corporate shareholders with the institutional interests of making a harmed plaintiff whole, state jurisdictions developed their own—often convoluted—tests and prongs of tests.[7] Notwithstanding such variations, piercing the corporate veil cases mostly turn on whether the court see the defendants as “good” or “bad,” and whether the court believes the parties abused their limited liability privilege.[8]
LLCs and Nonprofits
For a variety of reasons, nonprofits are increasingly using a special corporate entity known as a limited liability company (LLC), typically as a subsidiary. LLCs are commonly used for separate program activities to own real estate, or otherwise to silo risk from the main nonprofit entity. Such LLCs are owned and controlled by the parent nonprofit as its “single member,” and they are often “disregarded” for tax purposes (i.e., reporting financial activities through the parent nonprofit’s IRS Form 990 return).
With such LLC usage, corporate liability should remain in each respective entity according to its own operations. But such approach is not foolproof, particularly in light of piercing the corporate veil considerations and potentially aggressive litigation efforts. To minimize imputed liability risks, nonprofits seeking to use LLCs should comply with the following corporate formalities and related best practices:
1. Each entity carries out its own prescribed and identified separate operations;
2. The nonprofit parent appoints the LLC’s manager or other leaders, but otherwise minimally controls the LLC;
3. The subsidiary LLC is sufficiently capitalized for its expected operations;
4. The LLC has insurance adequate and proportional to potential liabilities stemming from its operations;
5. The LLC has its own bank accounts, staff, and separate financial record keeping;
6. To the extent that resources are to be shared between the nonprofit parent and LLC, such sharing is carefully memorialized in a written shared services agreement that is followed;
7. The organizations conduct separate leadership meetings; and
8. Ideally, the organizations do not have overlapping boards or leadership (or at least the leadership is not co-extensive.
These best practice pointers are developed much more fully through the following sections.
Trends in Piercing the Corporate Veil
Courts continue in their willingness to pierce the corporate veil, under appropriate circumstances that nearly always involve businesses but not nonprofits. This may be in part because multi-corporate structures historically have not been as common in the nonprofit sector as in the for-profit sector. As nonprofits deepen their understanding and use of multi-corporate structures,[9] veil piercing litigation efforts may become more common. Determined plaintiffs often seek to satisfy judgments from multiple financial sources. Consider, for example, a church which locates a daycare ministry in an LLC subsidiary. In the event that a child was abused at the daycare center, the parent church should expect the child’s attorney to carefully scrutinize the relationship between the limited liability company daycare and the parent church. In the absence of strong corporate formalities between the church and the LLC, the church could be at increased risk, even though the harm took place through the LLC’s operations. It is thus important for nonprofit leaders to understand, especially when considering risk management measures involving affiliated nonprofits, initial nonprofit development, and the accompanying importance of adhering to corporate formalities (as described in more detail in the last section below).
In some cases, a plaintiff does not even have to prove any wrongdoing. Instead, courts have said the purpose of piercing the corporate veil doctrine is to prevent an individual businessman from hiding from the “normal consequences of carefree entrepreneuring by doing so through a corporate shell.”[10] While this way of analyzing piercing the corporate veil doctrine is common, the legal doctrine is state-specific. Some states (like California) impose a more lenient standard, while some states (like Texas) impose a stricter standard when deciding whether to pierce the corporate veil.[11] Because piercing the corporate veil analysis differs depending on the state and the type of case, it often seems to apply inconsistently and is not easily understood.
Over the years, overall trends show that courts are more likely to pierce the corporate veil and impose liability on others in the following situations: (1) closely-held corporations; (2) an individual defendant who actively participate in the business at issue; (3) when corporate formalities are disregarded; (4) when business and personal assets are commingled for noncorporate use; (5) lack of adequate capitalization for a corporation; and (6) a corporation that deceives or misrepresents information to its creditors.[12]
All except the first situation above apply to nonprofits, not just business entities. Notably, courts do not pierce the corporate veil solely because an organization is undercapitalized. Nonprofits that may not have sufficient capital or funding should enjoy some peace of mind, since this factor – alone – should never be determinative. Rather, as indicated above, courts typically focus on whether the defendant is a “bad actor” (whether individually or in terms of an affiliated entity) or has otherwise engaged in misconduct.
Nonprofits and Piercing the Corporate Veil Cases
As noted above, piercing the corporate veil cases involving nonprofits are uncommon. The following subsections summarize notable recent rulings involving nonprofits, with accompanying pointers for maximizing limited liability and avoiding imputed liability beyond the nonprofit corporate entity.
Zimmerman v. Puccio, 613 F.3d 60 (1st. Cir. 2010)
Facts: The Puccio brothers formed a nonprofit organization called “Cambridge.” Cambridge’s nonprofit purpose statement included “improving a consumer’s credit rating over time by establishing a consistent payment history.” In addition to Cambridge, the Puccio brothers had several for-profit companies that they treated interchangeably. One such company was Brighton Credit Corporation of Massachusetts (“BC Mass”). BC Mass provided “back-office support” for Cambridge’s operations. Andrew and Kelly Zimmerman (“the Zimmermans"), hoping to deal with their debt and attracted to Cambridge’s nonprofit status, signed up for Cambridge’s Debt Plan and began paying Cambridge a monthly fee to handle their debt. Unbeknownst to the Zimmermans, once they enrolled in the Debt Plan, Cambridge transferred their account to BC Mass, a for-profit company.
No one from Cambridge or BC Mass ever communicated with the Zimmermans regarding a for-profit company handling their account. In fact, the Zimmermans’ contract with Cambridge explicitly stated Cambridge was a “not for profit organization.” Nine months after contracting with Cambridge, the Zimmermans terminated their contract and filed for bankruptcy a year later. The Zimmermans filed a class action lawsuit against all the Puccio brothers’ companies.
Court rulings: The trial court dismissed the federal claims against Cambridge on the basis that as a nonprofit entity, Cambridge was exempt from the Credit Repair Organizations Act (CROA).[13] On appeal, however, the dismissal was reversed, with a determination that qualification for the statutory exemption required a nonprofit to (1) operate as a nonprofit and (2) be tax exempt under section 501(c)(3). Cambridge was not operating as a nonprofit because it misled consumers into believing they entered a contract with a nonprofit when, in fact, the services offered by Cambridge were wholly serviced by a for-profit.
Imputed liability: Because Cambridge remained a party in the case, the Court pierced the corporate veil and held the Puccios individually liable for the following reasons:
1. The Puccios owned and had “pervasive control” over all the entities, which operated with no clear boundaries or separate corporate structures. Notably, employees for one company also performed work for another one.
2. The “total failure” to clearly delineate which corporation was acting at a given time. For example, the Puccios applied funds from one entity to another to pay bills without any information regarding where the funds originated.
3. The facts demonstrate an “element of dubious manipulation and contrivance, finagling, such that corporate identities are confused and third parties [could not] be quite certain with what they were dealing.”[14]
4. Cambridge served as an alter ego of the Puccios as they funneled money from Cambridge to other companies, and ultimately, to the Puccios themselves.
Ledford v. Keen, 9 F.4th 335 (5th Cir. 2021)
Facts: The plaintiff sued the Kosse Roping Club (“KRC,” a rodeo operator) and its directors individually after being run over by a barrel racing horse at the Texas rodeo. Plaintiff attempted to pierce the corporate veil, alleging KRC was “under-capitalized and uninsured to an unreasonable degree” and had “failed to maintain other corporate formalities.” The plaintiff established the following facts: (1) KRC never had liability insurance; (2) the founders knew rodeos were dangerous; and (3) the only asset KRS held was a checking account with less than $400 (too little to compensate injuries occurring at a rodeo).
Court ruling: The Court did not pierce the corporate veil and thus did not find any individual liability, concluding that undercapitalization alone cannot pierce the corporate veil. The Court determined that the plaintiff’s arguments, as noted above, pointed only to KRC’s undercapitalization, which is not enough on its own to pierce the corporate veil. The plaintiff needed to present “additional compelling facts” that support the plaintiff’s allegation to an extent that would show KRC was created to “perpetrate a fraud, evade an existing obligation, achieve or perpetrate a monopoly, circumvent a statute, protect a crime, or justify wrong.”[15] Notably, a footnote included a statement regarding Texas law involving nonprofits and piercing the corporate veil, questioning whether the piercing the corporate veil doctrine could ever apply to a nonprofit.
Doe v. Gelineau, 732 A.2d 45 (R.I. 1999)
Facts: Minors were assigned to a foster care facility run by a nonprofit corporation named St. Aloysius, which in turn was funded and controlled by the Roman Catholic Bishop of Providence (RCB). The plaintiffs alleged that St. Aloysius staff abused them and that the RCB should be liable, under a piercing the corporate veil theory. More specifically, the plaintiffs claimed RCB was the real party controlling St. Aloysius’ nonprofit activities and therefore should be held liable for the tortious acts committed.
Court ruling: The court recognized that "the corporate entity should be disregarded and treated as an association of persons only when the facts of a particular case render it unjust and inequitable to consider the subject corporation a separate entity." Further, injustice occurs when the corporate entity is used to “justify wrong, protect fraud, or defend crime.”[16] In cases involving parent companies and subsidiaries, the evidence thus should prove that the parent “dominated the finances, policies, and practices of the subsidiary.”[17] When further considering what such parent entity domination of a subsidiary entails, the court indicated that a persons’ dual leadership roles in both organization is not alone sufficient. Instead, the plaintiffs needed to demonstrate the officer involved in both corporations controlled the subsidiary’s affairs to such a degree the subsidiary was merely an instrumentality of the parent company. Because the plaintiffs lacked such evidence, the plaintiffs could not pierce the corporate veil and hold RCB liable for the St. Aloysius employees’ wrongdoing.
Macaluso v. Jenkins, 420 N.E.2d 251 (1981)
Facts: Mr. Jenkins founded a non-profit called Industrial Police Association (“IPA”). IPA had no paid or salaried employees, just two volunteers—Jenkins (the founder) and Zecca (a woman who did secretarial/administrative work). IPA contracted with Image II (two corporate entities) to print materials on behalf of IPA. IPA never paid Image II for the prints, leading Image II to enforce the contract via court order. Image II sought to pierce the corporate veil of IPA and hold Jenkins personally liable, based on Jenkins method of handling IPA’s assets. Image II also sought to hold Zecca personally liable.
Court ruling: Under Illinois law, piercing the corporate veil is only possible if a plaintiff proves both prongs of a test: “(1) such unity of interest and ownership that the separate personalities of the corporation and the individual no longer exist; and (2) circumstances must be such that an adherence to the fiction of separate corporate existence would sanction a fraud or promote injustice.”[18] The court determined piercing the corporate veil is legally possible for a nonprofit. Jenkins argued it is not possible because there is no “ownership” interest in a nonprofit; therefore, the first prong fails every time. The court rejected this argument, however, and concluded that “ownership” is more about the substance rather than the form. The concept of “ownership” thus applies to the person who exercises control over the nonprofit like an owner of a corporation. Once the court held that piercing the corporate veil can apply to nonprofits, it applied the two-prong test for imputed individual liability for both Jenkins and Zecca.
The court determined Jenkins and IPA had such unity of interest that distinction between the corporation and the individual no longer exists: (1) Jenkins made all of the decisions; (2) he had exclusive power to authorize loans without consulting a board of directors; and (3) he had exclusive authority to appoint a vice-president. Additionally, the court determined that three instances could support the fraudulent existence of IPA: (1) Jenkins failed to maintain adequate corporate records; (2) Jenkins commingled assets and funds of various enterprises housed in the same building; and (3) Jenkins treated the assets of the corporation as his own, with the Plaintiff producing evidence Jenkins used IPA funds to repair his car. For these reasons, the court determined Jenkins could be personally liable for IPA’s contracts, affirming a monetary judgement for which Jenkins was personally responsible.
The court then determined that, in contrast to Jenkins relationship to IPA, Zecca and IPA did not have such unity of interest because Zecca was merely a part-time voluntary clerical worker who occasionally signed checks for Jenkins. The plaintiffs did not show sufficient evidence that Zecca exercised ownership or control over IPA. Further, the plaintiffs did not provide sufficient evidence that they were harmed by any commingling of assets Zecca might have performed. The corporate veil was hence not pierced through to Zecca, but only to Jenkins. This example helps show that piercing the corporate veil should not happen if the organization is merely undercapitalized. Sufficient assets can help a corporation cover its own debts, however, mitigating the risk of suit from parties that claim damages.
Best Practices – Factors For and Against Piercing the Corporate Veil
With the above legal background and typical nonprofit operations in mind, the following factors contrast corporate formalities and related operational practices that impact potential liability through a potential plaintiff’s efforts to pierce the corporate veil against a nonprofit, its leaders, or affiliated entities.
Factors Favoring Piercing the Corporate Veil:
1. Corporation serves as a mere facade or shell for an affiliate and has no substantial business purpose apart from the parent organization;
2. Corporation has no corporate assets or is inadequately capitalized (though not as the only factor as discussed above);
3. Corporation has no insurance or is insufficiently insured to fund potential liabilities;
4. Corporation does not have an independent functioning board or officers. Parent entity’s board or officers controls all decision making of affiliate or the same directors and officers are responsible for the supervision and management of both entities;
5. Corporation is controlled or managed by employee/employees of parent entity;
6. Corporation does not hold corporate meetings or maintain minutes;
7. Corporation does not have bylaws or other corporate policies or does not adhere to its bylaws and corporate policies;
8. The corporate records of multiple entities lack proper distinction between the parties. Entities fail to maintain separate accounting and bookkeeping records;
9. Assets are commingled between entities (as demonstrated by common bank accounts or other failures to segregate finances and other intangible and tangible assets, or possibly through the unauthorized diversion of corporate funds to another entity, moving capital among entities without corporate approval or documentation, or treating assets of one entity as affiliate’s own);
10. Corporation conceals or misrepresents to the public the corporate identity responsible for ownership of assets or operations, or corporation agrees to be liable for the debts of an affiliated entity;
11. Corporation uses affiliate to procure services, labor, or goods for itself;
12. Contracts or agreements fail to clearly articulate the right entity name or capacity of signer with the right entity;
13. Corporation fails to file returns and reports to maintain good standing;
14. An individual holds themselves out as personally liable for the corporation’s debts;
15. Multiple corporations use the same office or business locations; and
16. Concealment and misrepresentation of the identity of the ownership, management, or concealment of personal business activities.
Factors Against Piercing the Corporate Veil:
1. Entity has clearly defined business purpose and maintains separate governance and management structures;
2. Corporation has sufficient capital to operate and to cover expenses in accordance with an approved budget;
3. Corporation maintains insurance sufficient to fund potential liabilities;
4. Corporation maintains a board with a majority of independent directors and officers. Board regularly holds meetings, maintains minutes, and officers carry out resolutions of the board. Each entity’s board exercises level of autonomy. Bylaws of subordinate entity may require certain actions to be pre-approved by parent;
5. Corporation has its own employee/employees, and/or shared employees are subject to arms-length written agreements between parties;
6. Corporation holds regular meetings and records minutes of meetings and resolutions;
7. Corporation adheres to the election, notice, quorum, manner of acting, and other provisions set forth in its bylaws. Additional corporate policies are adopted as needed.
8. Each entity maintains separate and complete corporate records pertaining to its operations and governance, as well as separate bookkeeping and accounting records;
9. Separate bank accounts are maintained, and clear documentation exists demonstrating funds are segregated for each entity; also assets transferred between the two entities are subject to board approval, constitute arms-length transactions, and are carefully documented including the purpose for the transfer;
10. Representations to the public clearly articulate the separate corporate structures, with debts are separately maintained and paid by the respective entity;
11. Each corporation procures its own services, labor, and goods as needed;
12. Representatives execute agreements and contracts with the right entity name and designate their capacity as signatory;
13. Corporation properly files separate returns and maintains corporation in good standing;
14. Individuals never claim to be personally liable for a corporation’s debts;
15. Corporations utilize different office addresses or locations; and
16. Corporation is open regarding leadership and responsibility in the organization.
Wrapping up, how should nonprofit leaders best take heed of these factors? In brief, consider them carefully, seek to comply with as many favorable factors as possible, and remember that effective risk management may warrant following up with related corporate governance and other measures too.
[1] For more information about advisability of nonprofit corporation, please see our blog article here.
[2] Jonathan A. Marcantel, Because Judges are Not Angels Either: Limiting Judicial Discretion by Introducing Objectivity into Piercing Doctrine, 59 KAN. L. REV. 191, 194 (2010).
[3] MODEL BUS. CORP. ACT (2002). The MBCA is a body of laws regulating corporate affairs uniformly across different states. Most states have adopted the full MBCA as the basis of their own laws, while modifying some provisions.
[4] Narrowing The Road to Recovery: A Proposal to Tighten the Reins of the Doctrine of Piercing the Corporate Veil, 1 Stetson Bus. L. Rev. 65, 71 (2022).
[5] Id. at 74.
[6] See, e.g., Nicholas L. Georgakopoulos, Contract-Centered Veil Piercing, 13 Stan. J.L. Bus. & Fin. 121 (2007); John H. Matheson, Why Courts Pierce: An Empirical Study of Piercing the Corporate Veil, 7 Berkeley Bus. L.J. 1 (2010); Richmond McPherson & Nader Raja, Corporate Justice: An Empirical Study of Piercing Rates and Factors Courts Consider When Piercing the Corporate Veil, 45 Wake Forest L. Rev. 931, 940 (2010) (examining 236 cases from 1996 to 2005);
[7] Veil-Piercing's Procedure, 67 Rutgers U. L. Rev. 1001, 1010-11 (2015).
[8] A. Palmiter et. al, Business Organizations: A Contemporary Approach, 337, 334 (3d ed. 2019).
[9] For more information about multi-entity corporate structing, please see our related blog article here.
[10] Labadie Coal Co. v. Black, 672 F.2d 92, 100 (D.C. Cir. 1982).
[11] See Associated Vendors, Inc. v. Oakland Meat Co., 210 Cal.App.2d, 825, 838-40 (1962) and Matter of Ritz, 832 F.3d 560, 567-68 (5th Cir. 2016).
[12] Palmiter supra note 7, at 354-55.
[13] Citing 15 U.S.C. § 1679a(3)(B)(i), which excludes “any nonprofit organization which is exempt from taxation under section 501(c)(3) of the Internal Revenue Code of 1986.”
[14] Evans v. Multicon Constr. Corp., 30 Mass. App. Ct. 728, 574 N.E.2d 395, 400 (Mass. App. Ct. 1991).
[15] Spring St. Partners-IV, L.P. v. Lam, 730 F.3d 427, 443 (5th Cir. 2013).
[16] Citing R & B Electric Co. v. AMCO Construction Co., 471 A.2d 1351, 1354 (R.I. 1984); Vennerbeck & Clase Co. v. Juergens Jewelry Co., 164 A. 509, 510 (1933).
[17] Citing Miller v. Dixon Industries Corp., 513 A.2d 597, 604 (R.I. 1986).
[18] Citing Gallagher v. Reconco Builders, Inc. 91 3d 999, 1004 (Ill. Ct. App. 1980).
