Chapter 22 - § 22.3 • PIERCING THE CORPORATE VEIL

• Jurisdiction: Colorado

§ 22.3 • PIERCING THE CORPORATE VEIL

§ 22.3.1—Three-Part Test for Piercing the Corporate Veil

Under the three-part test set forth by Phillips, to pierce a corporate veil, and thereby subject a shareholder of a corporation to personal liability, a claimant must establish that (1) the corporate entity is the alter ego of the shareholder, (2) justice requires piercing the veil because the corporate form was used to perpetrate a fraud or defeat a rightful claim, and (3) an equitable result will be achieved by disregarding the corporate form and finding the shareholder personally liable.¹¹

Alter Ego

The first step in determining whether piercing is appropriate is sometimes described as the alter ego, or mere instrumentality, test. Under the test, a corporation may be found to be the alter ego of a shareholder when it serves as a mere instrumentality for the transactions of the shareholder's own affairs, and "there is such a unity of interest in ownership that the separate personalities of the corporation and the owners no longer exist."¹²

In determining whether a sufficient unity of interest exists, courts in Colorado look at a number of factors. The specific factors, however, can vary depending on whether the shareholder is an individual or a parent corporation.

Individual Shareholders

In cases involving individual shareholders, the factors include whether:

(1) The corporation is operated as a distinct business entity,
(2) Funds and assets are commingled,
(3) Adequate corporate records are maintained,
(4) The nature and form of the entity's ownership and control facilitate misuse by an insider,
(5) The business is thinly capitalized,
(6) The corporation is used as a "mere shell,"
(7) Shareholders disregard legal formalities, and
(8) Corporate funds or assets are used for non-corporate purposes.¹³

The list of factors is not intended to be exclusive, and no single factor is determinative. The factors are said to reflect the principle that a corporate veil should only be pierced when the corporate form has been abused.¹⁴

Parents and Subsidiaries

In cases in which liability is sought to be imposed upon a parent corporation for the acts or debts of its subsidiary, a slightly different set of factors, sometimes referred to as the Fish factors,¹⁵ has also been used. Such factors include whether:

(1) The parent corporation owns all or a majority of the capital stock of the subsidiary.
(2) The parent and subsidiary corporations have common directors or officers.
(3) The parent corporation finances the subsidiary.
(4) The parent corporation subscribes to all the capital stock of the subsidiary or otherwise causes its incorporation.
(5) The subsidiary has grossly inadequate capital.
(6) The parent corporation pays the salaries or expenses or losses of the subsidiary.
(7) The subsidiary has substantially no business except with the parent corporation or no assets except those conveyed to it by the parent corporation.
(8) In the papers of the parent corporation, and in the statements of its officers, "the subsidiary" is referred to as such or as a department or division.
(9) The directors or executives of the subsidiary do not act independently in the interest of the subsidiary but take direction from the parent corporation.
(10) The formal legal requirements of the subsidiary as a separate and independent corporation are not observed.¹⁶

Not all of the above factors must be shown,¹⁷ nor is any single factor determinative.

Corporate Form Used to Perpetrate a Wrong

The fact that a corporation is an alter ego of a shareholder is not, by itself, a sufficient basis to disregard the corporate form. It must also be shown that the corporate fiction has been used to perpetuate a fraud or to defeat a rightful claim.¹⁸ If the corporate form was not used to shield the shareholder's improprieties, the corporate veil may not be pierced.¹⁹

In applying this second prong of the test, it is important to distinguish between the corporation and the concept of the corporate form or corporate fiction. In such regard, the fact that a corporation has violated the law does not necessarily mean that the corporate form was used to perpetrate a wrong. For example, in a case in which a corporation failed to provide legally required workers' compensation insurance for the protection of its employees, the Colorado Court of Appeals found that such failure did not establish that the shareholders used the corporation to evade important legislative policy.²⁰ In other words, although the corporation committed a wrong, the commission of that wrong was not tied to the use of the corporate fiction.

Similarly, mere informalities in the conduct of a corporation are...