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Hot Topics in Bankruptcy Law: Alter Ego Claims

Most of us believe that when we set up a corporation to conduct business, we’ve accomplished many positive things. One of these, in particular, is that we’ve shielded ourselves from personal liability for any of the company’s business obligations. Unfortunately, that may not always be the case.

Usually a corporation is treated as a separate legal entity, and the corporation is solely responsible for the debts that it incurs. However, whether your business is financially sound, or is having cash flow issues, individual owners are not immune from suit by an aggressive creditor, or some other party seeking to recover a claim for a variety of other reasons.

In such cases, a plaintiff may file suit against not only the corporation, but its owners, officers or directors. How and under what circumstances can this type of action be successful? When can you be personally responsible for the debts of your corporation?

Courts have developed a concept known as “piercing the corporate veil.”  Essentially, it is a legal concept in which courts cast aside limited liability and hold a corporation’s shareholders or directors personally liable for the corporation’s actions or debts under a theory that the corporation is their “alter ego.” Veil piercing is most common in small, closely held companies.

In determining whether a corporate veil may be pierced, which can result in personal liability, courts will look to a number of key factors.

Undercapitalization.  Was the corporation undercapitalized from the outset?  Failing to sufficiently capitalize a newly formed company can not only lead to financial distress, but also leaves its shareholders susceptible to suit.

Failure to adhere to corporate formalities.   Does the corporation have an operating agreement and/or corporate by-laws?  Does it conduct regular board meetings and keep minutes?  If it fails to do follow these and other simple rules, the risk of personal exposure is higher.

Substantial intermingling of corporate and personal affairs.  Are there significant intercompany transfers, or are funds being paid out of the corporation that are clearly not business related?  When business owners use their various corporations to shuttle funds back and forth between them, or they utilize their corporation as a personal piggy bank from which they can withdraw money at will, the corporate form will be disregarded.

Use of the corporate form to perpetuate a fraud.   Does someone with whom you do business routinely appear to be starting up, then shutting down, his corporations?  Clearly, where individuals set up companies solely and knowingly to shield themselves from liability, they will be found to take on the liabilities of the company.

Recently, veil piercing through an alter-ego theory was tested by two courts in Pennsylvania, with opposite results.

In Liberman v. Corporacion Experianca Unica, S.A., — F. Supp. 3d —-, 2016 WL 7450464 (E.D. Pa. Dec. 27, 2016), the U.S. District Court decided in favor of business owners where the plaintiff sought to pierce the corporate veil.  There, the plaintiffs were not paid rental profits from their investment in a time share in Costa Rica.   In their subsequent suit, the plaintiffs attempted to pierce the corporate veil in order to hold the defendants and defendants’ principal liable for all resulting damages.

The court rejected the plaintiffs’ arguments outright.  First, the court drew a distinction between undercapitalization and underperformance, the latter of which does not lend to a successful veil piercing claim.  Also, the court found that the need to borrow money at the beginning of a project was not evidence of undercapitalization and noted the absurd result that could stem from such a ruling.

The plaintiffs’ argument that the defendants failed to observe corporate formalities was also rejected.  The court noted that each defendant maintained separate board meetings, shareholder meetings, insurance, tax returns, officers, title to assets, books and records and financial statements as evidence that the defendant corporations were all maintained as separate entities.  Finally, in rejecting the plaintiffs’ contention that intermingling occurred, the court found that the fact that funds were being transferred and booked, between different companies actually supported the defendants case, because it was evidence of the maintenance of separate books and records.  Importantly, the court stated that common ownership was not evidence of intermingling and did not support an alter ego theory of liability.

In stark contrast to the District Court’s decision in Liberman, the Superior Court of Pennsylvania upheld a verdict by the Court of Common Pleas to pierce the corporate veil in Power Line Packaging, Inc. v. Hermes Calgon/THG Acquisition LLC, 2017 WL 90617 (Pa. Super. Jan. 10, 2017).  In Power Line, the plaintiff supplied a line of mists, lotions and shaving gels to the corporate defendants.  When the corporate defendants failed to pay, the plaintiff sued them, as well as the defendants’ principals.  After a non-jury trial, the Court of Common Pleas issued comprehensive findings, holding the defendants’ principals personally liable.

First, the Court found that the defendant corporations were undercapitalized in that they were never solvent and never had any substantial assets at any time.

In addition, unlike the defendants in Liberman, the Power Line corporate defendants held no board meetings, kept no minutes and had board members that never participated in the companies’ business affairs.  Moreover, the corporate defendants distributed dividends to shareholders with absolute disregard of their investment in that corporation, or the corporation’s financial ability to pay a dividend.  Thus, the court held, corporate formalities were not observed.

The Court also found that the defendants and their principals frequently comingled their assets, stating, in fact, that one principal operated under the assumption that all of the money in all of the companies belonged to him and could be used at his leisure.

Finally, the Court held that the principals of the defendants used the defendant corporations to perpetrate a fraud and render the defendant companies insolvent.  The court highlighted multiple misrepresentations from the defendants to the plaintiff that caused the plaintiff to continue to do business with the defendants, at a substantial loss. 

When conducting business, it is important to be mindful of the red flags that can result in personal liability for corporate debt. In order to minimize these risks, it’s helpful to have a sound business model at the outset, maintain accurate business and financial records and comply with the standards of conducting a business that have been discussed above. Flaster Greenberg’s attorneys provide advice and counseling on business formation and risk management, and when litigation is unavoidable, we represent our clients tenaciously to resolve the dispute as quickly and efficiently as possible. If you have questions about managing risk or ways to avoid personal liability for your business obligations, please contact Harry Giacometti or Damien Tancredi.

 

 

 

Governor Chris Christie Vows To Limit Initial Prescriptions For Pain Medications – Medical Community Reacts

At Governor Christie’s State of the State address last week he emphasized again that fighting drug abuse and addiction is a top priority.  One of his proposals has already drawn a strong reaction from the medical community.  Governor Christie proposed that physicians should be limited to prescribing a five-day supply of pain medications for acute conditions. Under the current law a physician may write a prescription for up to a 30-day supply of pain relief medication.  Last year Connecticut, Massachusetts, Maine, New York and Rhode Island restricted initial prescriptions for acute pain medications to a seven-day supply. New Jersey’s proposed five-day prescription limitation could be the strictest in the country.

In his address, Governor Christie said that a 30-day supply “is dangerous, ill-advised and absolutely unnecessary.” His goal is to limit prescriptions to five days so that patients in acute pain must consult with their physicians before they can receive another prescription.  Governor Christie’s assertion that a 30-day supply is “excessive” is unfounded and it may result in more harm to patients in pain than good, according to physicians.

Nonetheless, on January 17, 2017 Governor Christie signed an Executive Order directing the State’s Attorney General, Christopher Porrino, “to take all necessary steps to limit the initial prescription of opioids for acute pain.”   Last week Attorney General Porrino sent the Board of Medical Examiners (BME) a letter stating that he will seek to implement the five-day prescription limitation as an emergency adoption which would become effective upon its filing with the Office of Administrative Law.  He asked the BME to “support and assent” to the initiative no later than February 16, 2017.

The BME is charged with regulating physicians and other providers – the BME also adopts regulations on standards of practice including the requirements for prescribing pain medications to patients.  The BME’s recognizes the prescribing concerns raised by Governor Christie, such as the risk of a patient becoming addicted. Therefore, it recently voted in favor of a recommendation that all physicians must “familiarize” themselves with the Centers for Disease Control and Prevention guidelines for prescribing pain medications. The BME also continues to make disciplinary actions against physicians who engage in indiscriminate prescribing its highest priority.

Pursuant to the BME’s regulation on limitations for prescribing controlled substances, physicians must assess patients and develop treatment plans before prescribing for pain. The BME’s regulation limits the quantity of Schedule II pain medication (drugs most likely to be addictive) to a 30-day supply or 120 dosage units, whichever is less based upon its findings that this standard meets current medical evidence.  The federal Drug Enforcement Agency (DEA) does not limit Schedule II drugs to a 30-day supply.  The DEA merely provides that the amount prescribed must be for a “legitimate medical purpose.”

Limiting a physician’s ability to determine what is best (and legitimate) for patients has the medical community up in arms.  The State Medical Society’s opposition to this proposal is not surprising as the proposal is widely viewed as an intrusion into the physician-patient relationship.  New Jersey’s 30-day supply regulation is currently stricter than many states requirements, although certainly not as stringent as the five states mentioned above which have seven-day pain medication limitations.  Imposing even narrower limitations on physicians who treat pain “is not the way to go” according to the Chair of the American Medical Association’s Opioid Use Committee.  However, New Jersey may soon see changes in the amount that may be prescribed for acute conditions regardless of whether or not the BME decides to “stand” with the Attorney General emergency regulatory amendment.

Physicians will continue to be concerned about the impact on patients from the five-day proposal and the increasing efforts to discipline physicians who allegedly have engaged in indiscriminate prescribing.  Our experienced healthcare attorneys regularly represent physicians in disciplinary actions before the BME and we handle cases where physicians’ licenses may be suspended or revoked due to allegations of over-prescribing without medical justification.  Our role as counsel in these cases is to ensure that physicians are afforded due process and the opportunity to present evidence supporting the medical care they rendered.  During these challenging times for physicians, knowledgeable counsel is vital.

 

Alma L. Saravia is a shareholder of Flaster Greenberg PC in Cherry Hill. She practices in the area of health-care law and was a member of the N.J. State Board of Medical Examiners. She can be reached at 856.661.2290 or alma.saravia@flastergreenberg.com.

Solar Energy Marketplace: Strike Now While the Sun is Hot

solar panel

Attention solar energy developers and EPCs: get to work now and do not stop until the industry “goes dark” or you will miss your chance to capitalize on the recent extension granted by the federal government….the extension of the investment tax credit (“ITC”) (at 30% and then phasing down over time).

Developers and EPCs now have the guaranty that the 30% ITC will be available to them for qualified investment credit facilities until December 31, 2019 (at which time projects commencing construction after that date receive a lesser ITC rate). The relevant statue provides for a phase-out schedule that reduces the ITC to 26%, then 22% and then 10%, which means that for every solar energy project that complies with the federal regulations and is placed in service in accordance with the published schedule, they (or the investment tax credit investor that they secure) will receive an actual tax credit (not tax deduction) in the amount of the specified percentage of qualified costs. The extension of the ITC will provide the economic security that developers and EPCs need to get projects funded and financed.  In addition, the extension enables investors and lenders to feel secure in their equity investment and construction financing because the ITC is a virtually essential element of the deal funding “capital stack”.

With the solar energy marketplace in a virtually exponential growth phase, it is essential that developers and EPCs charge forward to secure as many readily available (willing offtaker or purchaser, economically viable, cooperative utility, etc.) projects as possible within their financial and operational capacity. Once these easy to secure and complete projects have been accounted for, then sales, development and construction efforts will all be more difficult and possibly more expensive.

What can you do to take advantage of the ITC extension (and state solar renewable energy credit (SREC)) programs? Consult with your renewable energy counsel to learn what states should be receiving your most focused project location/sales efforts and how to secure, develop, fund and finance your projects,

Questions? Let Mitch know.

Mitch Cohen is a co-founder and member of Flaster Greenberg’s Alternative and Renewable Energy Practice, representing clients engaged in or considering business ventures in emerging green energy fields such as solar, wind, geothermal, cogeneration, biofuels and biomass. His clients include solar and other alternative energy developers, EPC contractors, energy consultants and alternative energy funding sources. He can be reached at mitch.cohen@flastergreenberg.com or 856.382.2222.

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