Asset Protection Entities Suffer New Assaults

Reverse Piercing of Corporate Veil Reaches Entity Assets

Generally, business entities such as corporations or limited partnerships are legally separate and distinct from the shareholders and members of such entities. When justice requires, however, courts have ignored the separation of the business and the individual and have allowed a creditor of the business to satisfy the debt from the assets of an individual closely connected to the business. This concept is known as "piercing the corporate veil."

A variation on the idea, called "reverse piercing of the corporate veil," allows someone to reach the assets of the business entity to satisfy a claim or judgment obtained against a corporate insider. In both instances, a court disregards the normal protections given to a business structure in order to prevent abuses of that structure.

Neither type of "piercing" is done lightly. There must be such a blurring of the lines between a business and an individual that the separate personalities of the two no longer exist. Moreover, while a court's analysis is highly dependent on the facts of each case, typically the party seeking to disregard the distinction between a business and an individual associated with it must show that the individual controlled or used the business so as to evade a personal obligation, perpetrate a fraud or a crime, commit an injustice, or gain an unfair advantage.

Recently, a state supreme court approved the use of "reverse piercing" to allow two creditors of an individual to use the assets of a limited partnership controlled by that individual to satisfy his personal debts. The businessman owned or controlled various business entities. The creditors showed that revenue from the largest of these, a limited partnership, was transferred to a corporation owned by the same individual. Then the funds were used to pay for the businessman's lavish lifestyle, including such items as a second home, a country club membership, a luxury vehicle, credit card bills, and college tuition for the businessman's son. Under these circumstances, the legal distinction between the partnership and the person controlling it had become a fiction to be ignored in the interests of justice. 

Those who rely upon such entities must be aware of their limitations. Moreover, care should be taken particularly where the majority owner is not actively involved in managing the business. As the previous example demonstrates, a child or grandchild manager that misuses a family business may cause substantial risk of loss to the family.