Clients often worry if they can be held personally liable for a company in which they have an ownership interest. This is often followed by the question of whether one of their companies can be responsible for the obligation of another. In Pennsylvania, the answer to both questions is “yes,” but fortunately, it is not easy to do.

Piercing the Corporate Veil

Holding an individual responsible for the debts or liabilities of their company requires the corporate veil to be pierced. “Piercing-the-Corporate-Veil” is an exception to the general rule that when individuals form a corporation, a limited liability partnership (LLP), or a limited liability company (LLC), those individuals are not personally “on the hook” for the company’s debts or judgments. By way of example, a plaintiff who obtains a judgment against a corporation, an LLP, or an LLC that has insufficient funds or assets to satisfy the judgment may seek to collect from a corporation’s shareholders, LLP’s partners, or LLC’s members. However, courts strictly reserve this remedy for specific circumstances, including when a company is insufficiently funded (e.g., undercapitalized) and, most notably, when the entity’s interests are inseparable or comingled with its owners’ interests.

Piercing the Veil and the Mortimer Decision

When a company faces a lawsuit, owners, LLP partners, and LLC members are typically shielded from liability by a “corporate veil.” In Pennsylvania, courts tend to hesitate before “piercing the corporate veil” and finding owners and even their sister companies liable. However, in the summer of 2021, in the case of Mortimer v. McCool, the Pennsylvania Supreme Court considered and approved a new veil-piercing approach called “enterprise theory.” This theory states that when two or more “sister companies” operate as one, a successful plaintiff can seek to satisfy a judgment against a related “sister entity.” In Mortimer, the procedural posture was unique as the plaintiff had already obtained judgments against one insolvent entity and, through the appeal, sought to pierce the veil and collect on its judgments from a related and solvent “sister entity.”

In Mortimer, the court examined Pennsylvania case law regarding “piercing” and affirmed that there exists a “strong presumption in Pennsylvania against piercing the corporate veil” and “that the fundamental concern for its use only in cases of great injustice and inequity must remain the lodestar of piercing jurisprudence.” Put differently, the Mortimer Court restated that piercing the veil normally and under the enterprise liability theory is an exception to the rule and can only be entertained in limited circumstances. Essentially, a court will only consider holding an individual personally liable for the debts of a company when the individual abuses the privilege of having limited liability protection, such as routinely paying personal expenses through the company and purchasing personal property with company funds. And under the enterprise theory, a sister company will only be liable for the debts of another when there are common owners or there is an “administrative nexus” above the two entities. Otherwise, applying this theory would be unfair given the lack of connection between the two entities. On the other hand, the Mortimer Court also recognized that when the involved parties disregarded the corporate form, just like for general veil piercing, equity requires courts to disregard the typical protection for corporations, LLPs, and LLCs, and permit the collection from a related and solvent entity.

The court also looked to ten other states that usually limit the remedy to “truly egregious misconduct” and support applying the remedy when an owner abused the corporate form sufficiently enough that piercing through the form is a continuation of the owner’s prior actions that were tantamount to a pierce. Lastly, the Mortimer court considered the factors articulated by the Pennsylvania Supreme Court in Lumax Industries, Inc. v. Aultman (the Lumax factors), which are “undercapitalization, failure to adhere to corporate formalities, substantial intermingling of corporate and personal affairs[,] and use of the corporate form to perpetrate a fraud.”

Takeaways from Post-Mortimer Decisions: Has Anything Changed, and How Are Pennsylvania Businesses Affected?

A key takeaway from the Mortimer decision is that the liability of a sister company under the “enterprise theory” is essentially triangular. That is, liability flows from the debtor company up to the common owner and then from the common owner down to the “sister entity.” Put differently, a party must first get over the typically difficult hurdle of piercing the veil to reach the common owner and then reverse-pierce to reach the solvent “sister entity” and collect on the judgment. This is not an easy standard to meet, as made abundantly clear in Mortimer when the court recognized the existence of the remedy yet denied it to the plaintiff because one of the owners of the liable company did not have an ownership interest in the sister company. Therefore, while the Mortimer decision recognized the existence of the enterprise theory in Pennsylvania as a new way to pierce the veil, the Lumax factors must still be satisfied, and, therefore, the threshold requirements for veil-piercing remain quite high.

Although one may now seek to impose liability on a solvent “sister entity,” any plaintiff seeking recovery on this theory faces a number of difficult hurdles. These include procedural, pleading, and threshold requirements before they can succeed. Under Lumax and its progeny, Pennsylvania courts require plaintiffs to plead the required facts properly before the court will consider allowing the case to proceed under any piercing theory. Thus, if and when a plaintiff is aware of facts supporting such a theory, amending the pleading is vital. Also, plaintiffs seeking to pierce the veil must first succeed in their underlying claims. Only then can a plaintiff attempt to reach a sister company, and to do so, the Lumax factors must first be satisfied.

However, this finality requirement will work in a plaintiff’s favor when a defendant moves to dismiss claims under this theory. For example, in Seven Springs Mountain Resort, Inc. on behalf of Sikirica v. Hess, the court was unwilling to dismiss a veil-piercing claim under the “enterprise theory” because the evidentiary record was not developed and the court permitted the plaintiff to continue pressing this theory of recovery. Thus, while Mortimer allows for Pennsylvania claimants to “pierce the corporate veil” in a novel way, based on the two years since Mortimer, it appears that this avenue for recovery remains quite narrow and will continue to be difficult to successfully employ. Nevertheless, business owners, shareholders, and members alike – and especially those who own multiple entities – should respect the boundaries between those entities to avoid potential exposure under a “veil piercing” theory. If you have questions or concerns about these issues, please reach out to us so we can further guide you through these thorny issues.