Opinion ID: 2596
Heading Depth: 3
Heading Rank: 1

Heading: Limitations on Limited Liability

Text: A limited liability company (or LLC), formed by one or more entities and/or individuals as its members, is an entity that, as a general matter, provides tax benefits akin to a partnership and limited liability akin to the corporate form. Elf Atochem North America, Inc. v. Jaffari, 727 A.2d 286, 287 (Del.1999); see generally id. at 290. The shareholders of a corporation and the members of an LLC generally are not liable for the debts of the entity, and a plaintiff seeking to persuade a Delaware court to disregard the corporate structure faces a difficult task, Harco National Insurance Co. v. Green Farms, Inc., No. CIV. A. 1331, 1989 WL 110537, at  (Del. Ch. Sept. 19, 1989) ( Harco ). Nonetheless, in appropriate circumstances, the distinction between the entity and its owner may be disregarded to require an owner to answer for the entity's debts. Pauley Petroleum Inc. v. Continental Oil Co., 239 A.2d 629, 633 (Del.1968). In general, with respect to the limited liability of owners of a corporation, Delaware law permits a court to pierce the corporate veil where there is fraud or where [the corporation] is in fact a mere instrumentality or alter ego of its owner. Geyer v. Ingersoll Publications Co., 621 A.2d 784, 793 (Del.Ch.1992); see, e.g., Martin v. D.B. Martin Co., 10 Del.Ch. 211, 217, 88 A. 612, 615 (1913) ( Martin ) (Where one corporation owns all the shares of another corporation, co-operating in the same business, the former financing the latter, and the same persons are officers of both corporations, the latter is for certain purposes to be considered as an agency, adjunct or instrumentality of the former.); id. at 216-17, 88 A. at 615 (It must be in the power of the court to look through these legal fictions to the equitable realities and see by whom and through what agencies the wrong is done and on whom the loss ultimately falls.). Given the similar liability shields that are provided by corporations and LLCs to their respective owners, [e]merging caselaw illustrates that situations that result in a piercing of the limited liability veil are similar to those [that warrant] piercing the corporate veil. J. Leet, J. Clarke, P. Nollkamper & P. Whynott, The Limited Liability Company § 11:130, at 11-7 (rev. ed.2007); see also id. at 11-9 (Every state that has enacted LLC piercing legislation has chosen to follow corporate law standards and not develop a separate LLC standard.). To prevail under the alter-ego theory of piercing the veil, a plaintiff need not prove that there was actual fraud but must show a mingling of the operations of the entity and its owner plus an overall element of injustice or unfairness. Harco, 1989 WL 110537, at . [A]n alter ego analysis must start with an examination of factors which reveal how the corporation operates and the particular defendant's relationship to that operation. These factors include whether the corporation was adequately capitalized for the corporate undertaking; whether the corporation was solvent; whether dividends were paid, corporate records kept, officers and directors functioned properly, and other corporate formalities were observed; whether the dominant shareholder siphoned corporate funds; and whether, in general, the corporation simply functioned as a facade for the dominant shareholder. Id. at  (quoting United States v. Golden Acres, Inc., 702 F.Supp. 1097, 1104 (D.Del. 1988) ( Golden Acres ), aff'd, 879 F.2d 857 & 879 F.2d 860 (3d Cir.1989)). [N]o single factor c[an] justify a decision to disregard the corporate entity, but ... some combination of them [i]s required, and ... an overall element of injustice or unfairness must always be present, as well.  Harco, [1989 WL 110537, at ] (quoting Golden Acres, 702 F.Supp. at 1104). Harper v. Delaware Valley Broadcasters, Inc., 743 F.Supp. 1076, 1085 (D.Del.1990) ( Harper ) (emphasis added), aff'd, 932 F.2d 959 (3d Cir.1991). As the above discussion indicates, [n]umerous factors come into play when discussing whether separate legal entities should be regarded as alter egos, id., and [t]he legal test for determining when a corporate form should be ignored in equity cannot be reduced to a single formula that is neither over-nor under-inclusive, Irwin & Leighton, Inc. v. W.M. Anderson Co., 532 A.2d 983, 989 (Del.Ch. 1987). Stated generally, the inquiry initially focuses on whether those in control of a corporation did not treat[ ] the corporation as a distinct entity; and, if they did not, the court then seeks to evaluate the specific facts with a standard of `fraud' or `misuse' or some other general term of reproach in mind, id., such as whether the corporation was used to engage in conduct that was inequitable, Mobil Oil Corp. v. Linear Films, Inc., 718 F.Supp. 260, 269 (D.Del.1989) ( Mobil Oil ) (internal quotation marks omitted), or prohibited, David v. Mast, No. 1369-K, 1999 WL 135244, at  (Del.Ch. Mar.2, 1999), or an unfair trade practice, id., or illegal, Martin, 10 Del.Ch. at 219, 88 A. at 615. Simply phrased, the standard may be restated as: whether [the two entities] operated as a single economic entity such that it would be inequitable for th[e] Court to uphold a legal distinction between them. Mabon, Nugent & Co. [v. Texas American Energy Corp., No. CIV. A. 8578, 1990 WL 44267, at  (Del.Ch. Apr.12,1990) ]. Harper, 743 F.Supp. at 1085. Our Court has stated this as a two-pronged test focusing on (1) whether the entities in question operated as a single economic entity, and (2) whether there was an overall element of injustice or unfairness. See Fletcher v. Atex, Inc., 68 F.3d 1451, 1457 (2d Cir.1995). Finally, we note that the plaintiff need not prove that the corporation was created with fraud or unfairness in mind. It is sufficient to prove that it was so used. See, e.g., Martin, 10 Del.Ch. at 219, 88 A. at 615 (corporate form may be disregarded when used as a shield for fraudulent or other illegal acts, though it does not appear that the arrangement was originally intended to perpetrate a fraud); Sonne v. Sacks, No. CIV.A. 4416, 1979 WL 178497, at  (Del.Ch. June 12, 1979) (courts look behind the corporate curtain generally where the facts indicate that the corporate entity has been or is being used by those in control of it to perpetrate a fraud or to promote injustice (internal quotation marks omitted)). These principles are generally applicable as well where one of the entities in question is an LLC rather than a corporation. See, e.g., Oliver v. Boston University, No. 16570, 2000 WL 1091480, at ,  (Del.Ch. Jul.18, 2000) (holding that a Massachusetts LLC, created solely to serve the interests of its owner and completely dominated by the owner, could be fairly characterized as the alter ego of its owner). In the alter-ego analysis of an LLC, somewhat less emphasis is placed on whether the LLC observed internal formalities because fewer such formalities are legally required. See, e.g., Delaware Limited Liability Company Act, Del.Code Ann. tit. 6, § 18-101 et seq. (DLLCA) (requiring little more than that an LLC execute and file a proper certificate of formation, see id. § 18-201(a), maintain a registered office in Delaware, see id. § 18-104(a)(1), have a registered agent for service of process in Delaware, see id. § 18-104(a)(2), and maintain certain records such as membership lists and tax returns, see id. § 18-305(a)). On the other hand, if two entities with common ownership failed to follow legal formalities when contracting with each other it would be tantamount to declaring that they are indeed one in the same. Trustees of Village of Arden v. Unity Construction Co., No. C.A. 15025, 2000 WL 130627, at  (Del.Ch. Jan.26, 2000) (emphasis added).