68 CBJ 422. The Liability Shareholders of Closely Held Corporation under Cercla.

• Author: By ROBERT D. SNOOK (fn*)

Connecticut Bar Journal

Volume 68.

68 CBJ 422.

The Liability Shareholders of Closely Held Corporation under Cercla

422The Liability Shareholders of Closely Held Corporation under CerclaBy ROBERT D. SNOOK (fn*)You own 40% of a small trucking business. You manage the company and you have one employee who drives the truck. Your spouse owns 60% of the stock and keeps the books. You talked to a lawyer once, to set up the business, and have never held a corporate meeting since. One day, you receive notice from the United States Environmental Protection Agency ("EPA") claiming that, several years previously, your company delivered five drums of wastes to a location that is now a Superfund site. At your first meeting with the EPA you are informed that, not only is your small business liable for remediation costs significantly in excess of your insurance, but that the EPA is considering you and your spouse personally liable as well, and they're looking for the driver.

The above scenario is more than just theoretically possible. The basic elements of it have already been established in the context of actual litigation. The decisions rendered in these cases indicate that shareholders of small or closely held businesses may face a higher probability of personal liability than their counterparts in publicly held companies.

This article initially addresses the general protections that incorporation offers shareholders of closely held corporations and then addresses relevant aspects of the Comprehensive Environmental Response, Compensation, and Liability Act ("CERCLA"). (fn1)

After discussing recent developments in the case law, the article concludes that, while shareholders of closely held corporations face significant potential liability, there are certain strategies, which may, if employed, limit their exposure. Finally, this article suggests certain statutory changes to clarify the potential liability of shareholders.

1. CLOSELY HELD CORPORATIONS.

   The typical closely held corporation is a small business, usually with less than ten shareholders, who frequently are either

   423 family members or persons known to each other professionally for many years (fn2) Often, a closely held corporation is formed either when related individuals seek to have effective lifetime control over the operation of a family-run business or when several business professionals with a personal interest in a specific type of enterprise pool their expertise and resources to form a business. As a consequence, a closely held corporation generally involves only a few key individuals who, not infrequently, live in the same area, and are either related or have a history of long business association. In addition, such persons often function not only as shareholders but also as officers, directors or even the employees of the business. This attribute of closely held corporations, that the shareholders often function as officers, directors or employees, is critical in understanding the liability of shareholders of such companies. In a typical publicly held corporation, the shareholders "own" the business, and therefore bear the risk of loss of their investment, but have no direct involvement in day-to-day operations and no real voice in decision-making activities. In a closely held corporation, however, the decision-making and risk-bearing roles are merged in one with a concomitant increase in the overall responsibility and de facto authority of individual shareholders. (fn3) Shareholders therefore often occupy a role with greater overall influence and control in closely held corporations than in publicly held corporations. Even in those closely held corporations in which a shareholder does not function as an officer or director, the authority of a controlling or majority shareholder, derived from an ability to vote on the election of officers and directors, is often sufficient to ensure that such shareholder has significant indirect influence over corporate affairs.

   424 It must also be recognized that shareholders of closely held corporations are usually focused, not upon the legal complexities of their position but upon the practical business concerns attendant upon their enterprise and often view the legal aspects of incorporation and the maintenance of legal identity as mere annoyances or technicalities to be afforded only the briefest attention. Consequently, after an initial consultation with an attorney to arrange the necessary incorporation forms, most

   424participants in a closely held company rarely give their undivided attention to legal matters. Consequently, changes in the law, especially in such arcane subjects as environmental law, may not occupy the attention of shareholders; that is, at least until suit is filed.

   Parties forming a closely held corporation usually are seeking two goals. The first is a separate juridical existence and the second is limited liability.

   With regard to the first goal, a closely held corporation, as any other corporation, is considered a new and independent legal entity separate from its shareholders. This separate legal existence permits the incorporators to act as a single unit, to enter into contracts, to sue and be sued and otherwise conduct operations as a legally cognizable entity. As an extension of its status as a separate entity, the corporation is itself liable for its torts and shareholders face no exposure for a judgment rendered against a corporation beyond their initial capital contribution.

   The doctrine of limited liability, however, is not absolute and a common-law exception has developed. "As a general rule, courts and legislatures adhere to the notion that a corporation is a legal entity separate from its shareholders. Nevertheless, the digest of judicial decisions contains numerous instances in which courts have been asked to disregard the entity or pierce the veil, as it is sometimes called; indeed, this may be the most litigated issue in corporate law." (fn4)

   425 This common-law liability exception is well known and its limits well defined. The principal elements of the doctrine are generally described as follows: "[Tlhe separate personality of the corporation will be disregarded and the corporate veil pierced whenever the separateness of the corporate form is employed to evade an existing obligation, circumvent a statute, perpetrate fraud or crime or generally commit an in Justice or gain an unfair advantage." (fn5) As one court stated: [t]he law permits the incorporation of a business for the very purpose of enabling its proprietors to escape personal liability but, manifestly,, the privilege is not without its limits. Broadly speaking, the courts will disregard the corporate form, or, to use accepted terminology, "pierce the corporate veil", whenever necessary "to prevent fraud or to achieve 425equity". In determining whether liability should be extended to reach assets beyond those belonging to the corporation, we are guided, as Judge Cardozo noted, by "general rules of agency . In other words, whenever anyone uses control of the corporation to further his own rather than the corporation s business, he will be liable for the corporation's acts "upon the principle of respondent superior . . . ." (fn6)

   Interestingly, the vast majority of suits in which the corporate veil has been pierced involved closely held corporations. "Results of an empirical study of over 1600 cases of piercing the veil showed that the courts never pierced the veil to shareholders of a publicly held corporation. For close corporations, courts pierced the veil in about 40 percent of the reported cases." (fn7)

   Practitioners are well aware of the potential for piercing the corporate veil and therefore generally advise their clients of the need to show proper regard for corporate form, provide adequate capitalization, and refrain from gross misuse of the corporation for personal advantage. As a consequence, shareholders may believe that if they show proper regard for corporate formalities, remain adequately capitalized and do not use the business as a mere "front" or "sham," they will be protected from individual liability for corporate acts, including environmental liability. Unfortunately, however, there are now indications that shareholders may be held individually liable under CERCLA under new theories of law and that therefore the advice generally given businessmen and women to respect the corporate form may now be insufficient. In order to examine this problem more fully, it is necessary to describe the structure of CERCLA and its liability scheme.

   226 II. CERCLA

   "CERCLA was enacted in response to the environmental and public health hazards caused by the improper disposal of hazardous wastes. The statute attempts to place the ultimate responsibility for cleaning up hazardous wastes on those persons or entities responsible for problems caused by the disposal of hazardous waste." (fn8) Liability under CERCLA is established in Section 107 and is based upon a finding that a person occupies the status of an "owner" or "operator" or has arranged for the transportation or disposal of hazardous materials. Section 107 states that "[a]ny person who at the time of disposal of any hazardous substance owned or operated any facility at which such hazardous substances were disposed of ... shall be liable for ... any other necessary costs of response incurred by any other person consistent with the national contingency plan." (fn9) Thus...