A corporation’s failure to hold meetings, record minutes, and maintain them for the requisite time period under Alabama law could land shareholders and corporate officers in hot water. Absent a good reason, a corporation’s failure to perform its administrative functions as mandated by Alabama law could result in personal liability for shareholders and their corporate officers.
A corporation is a legal entity formed by an individual or group of individuals, often times in the form of shareholders. Corporations are formed for many reasons, however, chief among those reasons is the principle of limited liability for the corporation’s shareholders and their corporate officers.
Corporations can benefit individual shareholders as well as the economy at-large. Corporations can infuse or inject vast amounts of capital into the economy. Accordingly, the law and her courts jealously guard the principal of limited liability for shareholders and corporate officers by permitting those individuals to cloak themselves under a protective barrier colloquially known as the “corporate veil.” That protection, however, is not absolute nor is the corporate veil impenetrable.
Courts have often struggled with developing an ascertainable standard for when a plaintiff or a corporation’s creditor should be permitted to “pierce the corporate veil” and hold individual shareholders and corporate officers personally liable. The standard is somewhat amorphous and continues to change to this day. Generally, however, Alabama courts will permit a plaintiff or a corporation’s creditor to pierce the corporate veil or set aside the corporate form as mere fiction and hold individual shareholders liable if: (1) the corporation is undercapitalized; (2) the corporation is formed and/or operated for a fraudulent purpose; or (3) where the corporation is merely an alter ego of another dominant corporation or individual shareholder. This last reason is often termed the “alter ego theory” wherein another party, whether an individual or another corporation, exercises excessive control or domination over the corporation at issue.
While certainly not a new concept the “alter ego theory” is quickly becoming the weapon of choice to pierce a corporation’s shield (i.e. corporate veil). To simplify the analysis for veil piercing cases predicated on an alter ego theory the Alabama Supreme Court elucidated a common standard coined the Kwick Set test in its 1982 decision of Kwick Set Components, Inc. v. Davidson Ind., Inc., 411 So.2d 134 (Ala.1982). The Alabama Supreme Court has returned to this standard time after time when considering an alter ego theory case.
The Kwick Set test consists of three elements a court must consider when deciding whether to permit a plaintiff or creditor to impose liability on the dominant party. First, does the dominant party exercise complete control and domination of the subservient corporation’s finances, policy and business practices such that at the time of the attacked transaction, or alleged bad act, the subservient corporation had no separate mind, will, or existence of its own? Second, was such control misused by the dominant party? Third, and finally, did the misuse of that control proximately cause the harm or unjust loss complained of? See Messick v. Moring, 514 So. 2d 892, 894 (Ala. 1987)(citing Lowendahl v. Baltimore & O. Ry., 247 A.D. 144, 287 N.Y.S. 62 (1936)).
Generally, fraud must be present to pierce the corporate veil. However, while mere domination cannot be enough for piercing the corporate veil it is important to note that the second prong of the Kwick Set test, misuse of control, will be presumed in the absence of fraud when it is necessary to prevent injustice or inequitable circumstances. Stated differently, corporate fraud or a dominant party’s misuse of control is not necessary for veil piercing in cases where disallowing a plaintiff to pierce the corporate veil would result in injustice or inequity. Accordingly, if mere domination of a corporation is proven misuse of that control can be presumed in some instances, and all that is left for a plaintiff to show is a loss resulting from the presumed misuse of control.
Corporations and plaintiffs alike have been provided a non-exhaustive laundry list of items to prove indicia of control or complete dominance in a corporate veil piercing lawsuit predicated on an alter-ego theory. See Duff v. Southern Ry. Co., 496 So.2d 760, 762 (Ala. 1986); see also, Hill v. Fairfield Nursing & Rehab. Ctr., LLC, 134 So.3d 396 (Ala. 2013)(re-affirming the Duff Court’s eleven factors outlined for proving indicia of control). Perhaps chief among this list of eleven factors is the last one the Duff court mentioned: the failure of a corporation to observe its formal legal requirements.
Alabama law requires a corporation to hold corporate meetings and maintain adequate records of such. Pursuant to Ala. Code. 1975 §10A-2-16.01, a corporation is required to maintain appropriate accounting records, a record of all shareholders, and keep as part of its permanent records minutes of all meetings of its shareholders and board of directors, and any actions taken by the shareholders or board of directors without a meeting or actions taken by a committee of the board of directors in place of the board of directors on behalf of the corporation. Further a copy of the following must be maintained by the corporation at its principal office in Alabama: (1) Articles of Incorporation and all amendments to them currently in effect; (2) Bylaws or restated bylaws and all amendments currently in effect; (3) Any resolutions adopted by the corporation’s board of directors creating one or more classes or series of shares; (4) Minutes of all shareholders’ meetings and actions taken by shareholders without a meeting for the past three years; (5) All written communications to shareholders generally, to include financial statements furnished, for the past three years; (6) A list of the names and business addresses of the current directors and officers; and (7) the corporations most recent annual report filed with the Secretary of State or Department of Revenue filing.
Failure to adequately maintain the aforementioned corporate records may result in an Alabama court permitting a plaintiff or creditor to pierce a corporation’s veil and impose individual liability on its shareholders and corporate officers. Indeed, the Alabama Supreme Court permitted a plaintiff to do just that. A plaintiff-creditor was permitted to pierce the corporate veil of an Alabama corporation because the defendant “failed to keep complete and correct records of all transactions of the corporation and minutes of the proceedings of its shareholders and board of directors.” Econ Marketing, Inc. v. Leisure American Resorts, Inc., 664 SO.2d 869 (Ala. 1994). The Alabama corporation made it particularly easy for the plaintiff-creditor to pierce its veil because the financial records, books, or minutes of the hearings of the corporation’s board of directors could not even be located.
Shareholders and corporate officers of Alabama corporations alike would do well to ensure they are protected from personal liability by insisting that any companies to which they are affiliated are properly maintaining company records in compliance with Alabama law. If you have questions, the legal professionals at Martinson & Beason, P.C., can assist your company with properly observing the formal legal requirements of an Alabama corporation to protect your shareholders and corporate officers from personal liability.