Because Judges Are Not Angels Either:1 Limiting Judicial Discretion by Introducing Objectivity into Piercing Doctrine

Abstract

Ordinarily, individual shareholders are immune from liability arising from a corporation’s activities through the doctrine of limited liability. That is, absent a personal breach of duty either in contract or in tort, an individual shareholder is only financially exposed to judgments against, or debts of, the corporation up to the shareholder’s investment. All rules, of course, have exceptions. The most frequently litigated of those exceptions is the doctrine of piercing the corporate veil. Notwithstanding the frequent litigation surrounding the doctrine and the “bright-line rules” courts have created to cabin the doctrine, disparate results frequently occur both internally within a jurisdiction and externally between jurisdictions, as, in most cases, the courts use a factually specific factors analysis to determine when piercing is proper. These disparate results have led to concerns by corporate scholars, as the lack of predictability and consistency in the doctrine’s application is concerning as a matter of justice, as a matter of logical consistency, and, perhaps most practically, as a matter of counseling clients to avoid this unruly beast. This Article argues that piercing doctrine could be made predictable and consistent through adoption of a conjunctive test requiring objective criteria for the elements of unity, injustice, causation, and insolvency. Part II of this Article briefly discusses the historical roots of the piercing doctrine, indicating its origination and the typical categorizations and classifications of its various incarnations. This section further reviews each state’s classifications of piercing doctrine, ultimately finding the traditional classifications are generally lip-service used to mask an unguided, and inconsistently applied, factors test. Part III of this Article discusses four remedies other scholars have advocated to alleviate the doctrine’s predictability concerns. This Part further discusses the deficiencies of each of those proposals. Finally, Part IV argues the doctrine can be cabined through the introduction of a four-part conjunctive test. First, the proposed test requires an injustice prong, compelling plaintiffs to demonstrate the corporation engaged in fraud, engaged in misrepresentation, or was undercapitalized. Special emphasis is provided in this section to the element of undercapitalization and a novel method of generating an objective test for determining undercapitalization. Ultimately, the Article advocates adopting the tort doctrine of custom as a mechanism to contain the discretion otherwise rampant in undercapitalization determinations. Second, the proposed test requires an objective unity element that is premised upon control over the decision-making process. This element dispenses with the notion of seeking to determine which shareholder has corporate unity and instead focuses piercing analysis on which shareholder(s) have unity with the decision. Third, the proposed test requires a causal element, requiring plaintiffs to demonstrate the inequitable conduct gave rise to the plaintiff’s harm. This section incorporates but-for causation and proximate causation into the piercing test. Finally, the proposed test requires an insolvency prong, requiring plaintiffs to prove the corporation is insolvent to pay the plaintiff’s debt.