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The Relationship between Declaring Bankruptcy and Piercing the Corporate Veil

By: Lauren Gross

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

        In Music Mix Mobile, LLC v. Newman (In re Stage Presence, Inc.), the United States Bankruptcy Court for the Southern District of New York held that the plaintiffs’ alter ego allegations were sufficient to withstand a defendant’s motion to dismiss.[1]  Plaintiffs, Music Mix Mobile, LLC, et al., alleged they were not paid by Stage Presence Incorporated (a chapter 11 debtor), One for Each Island Ltd. (“OFEI”) and three individual producers of the benefit program: Newman, Weiner, and Marquette for audio, editing, teleprompter, music mixing and other services they provided in connection with the Childhelp program.[2]  Among other theories of contract liability against defendants, the plaintiffs asserted that OFEI, Newman, Weiner, and Marquette should jointly share in the contract liabilities of Stage Presence on “alter ego” grounds.[3]

        Plaintiffs asserted three separate theories of contract liability in their complaint against OFEI, Newman, Weiner, and Marquette but because this suit was brought at the motion to dismiss stage, the court had to decide which claims, if any, were sufficient to allow the case to proceed.  One of the theories the plaintiffs prevailed on was their alter ego/veil piercing claim.[4] The court noted that piercing the corporate veil requires a showing that "(1) the owners exercised complete domination of the corporation in respect to the transaction attacked; and (2) that such domination was used to commit a fraud or wrong against the plaintiff which resulted in plaintiff's injury."[5] The court found that allegations in the complaint were sufficient to withstand defendant’s motion to dismiss the claim.

        The concept of piercing the corporate veil is a limitation on the accepted notions that a corporation exists independently of its owners, as a separate legal entity, that the owners are generally not liable for the debts of the corporation, and that it is legal to incorporate for the purpose of limiting the liability of the corporate owners.[6] The doctrine of piercing the corporate veil is normally used by a third party seeking to penetrate the corporate existence in order to evade the limited liability of the owners and to hold them liable for some underlying corporate obligation.[7] In a bankruptcy setting, an unpaid creditor may sue a corporation or LLC and a court may decide to “pierce the corporate veil” and hold the owners or shareholders personally liable for various business debts. Usually, courts will respect the corporate structure of limited liability unless there are good reasons to pierce the veil in the interest of justice and equity.[8] Because many times a debtor, especially a closely held corporation or LLC, may be unable to pay debts directly out of its business assets, a creditor may seek to assert alter ego claims to obtain a new source of funds to satisfy its debts as occurred in this case. If a debtor is solvent, there would be no need to pierce the corporate veil.

 



[1] 555 B.R. 166, 2016 Bankr. LEXIS 2639 (Bankr. S.D.N.Y. 2016).

[2] Id.

[3] Id. at *4.

[4] Id. at *27

[5] Music Mix Mobile, LLC at *16.

[6] Morris v. State Dep’t of Taxation & Fin., 82 N.Y.2d 135, 140.

[7] Id. at 140-41.

[8] See Official Comm. of Unsecured Creditors v. Bay Harbour Master Ltd. (In re BH S&B Holdings LLC), 420 B.R. 112, 133 (Bankr. S.D.N.Y. 2009).