In previous articles, Stefan Cencarik, a Lynnfield based Massachusetts Business Attorney explained that the primary benefit of a valid Massachusetts corporation is limited liability for its officers, directors, and shareholders. One exception to the principal of limited liability is disregarding the corporate entity, also known as “piercing the corporate veil.” This exception will allow a creditor or other claimant to hold either the officers or shareholders personally liable for the debts and other claims against the Massachusetts business corporation. This is the worst case scenario for a business owner who wants to protect their own personal financial assets from business creditors.
In My Bread Baking Co. v. Cumberland Farms, Inc., 353 Mass. 614, 619 (1968) the Massachusetts Supreme Judicial Court outlined the criteria for disregarding the corporate entity:
‘(a) when there is active and direct participation by the representatives of one corporation, apparently exercising some form of pervasive control, in the activities of another and there is some fraudulent or injurious consequence of the intercorporate relationship, or (b) when there is a confused intermingling of activity of two or more corporations engaged in a common enterprise with substantial disregard of the separate nature of the corporate entities, or serious ambiguity about the manner and capacity in which the various corporations and their respective representatives are acting.’
The primary purpose of disregarding the corporate entity is to, in rare situations, allow parties to omit the corporate liability protection and to prevent gross inequity by providing an injured party an equitable remedy. The most common example of situation of an entity that may be disregarded is the instance where a small business owner:
Runs a “shell corporation” (without any significant assets or capital); that comingles business and personal financial affairs; fails to follow any corporate reporting, formal procedures, and officer duty requirements; and that is used to provide a direct source of funds or assets to the shareholder, or is used to conduct fraudulent activity.
There are twelve factors used by Courts in Massachusetts to determine whether to disregard the corporate form: (1) common ownership; (2) pervasive control; (3) confused intermingling of business activity assets, or management; (4) thin capitalization; (5) nonobservance of corporate formalities; (6) absence of corporate records; (7) no payment of dividends; (8) insolvency at the time of the litigated transaction; (9) siphoning away of corporate assets by the dominant shareholders; (10) nonfunctioning of officers and directors; (11) use of the corporation for transactions of the dominant shareholders; (12) use of the corporation in promoting fraud. Evans v. Mulicon Construction Corp., 30 Mass. App. Ct. 728, 733 (1991).
On October 30, 2015, Attorney Stefan Cencarik, a Massachusetts Business Lawyer, explained the importance of observing corporate formalities (Factors #5 & 6) so as to maintain a valid Massachusetts corporation. Future blog posts will address significant factors so that business owners may avoid disregarded entity status. If you or any other Massachusetts business owner becomes interested in reviewing the validity of your organization, please contact Attorney Stefan Cencarik at 617-669-9780. Attorney Cencarik provides legal services in Essex, Middlesex, and Suffolk Counties, Massachusetts, and serves Lynnfield, Boston, Peabody, Beverly, Salem, Danvers, Wakefield, Reading, North Reading, Andover, Woburn, Burlington, Saugus, and many more towns and cities.