Ever since the Hobby Lobby decision there have been two words playing in my head but it had taken a week before I heard anyone else say them aloud. The words, which have probably buzzed through Fortune 500 boardrooms and the corridors of law firms but have been absent from any of the media discussions I’ve heard, were finally spoken on MSNBC Monday night by civil liberties attorney Burt Newborne.
This is a legal concept that holds that a veil – or a wall if you will – separates the personality of a corporation from the personality of its stockholders. It gives the latter limited liability from the actions, debts, or mistakes of the former. It is the primary reason many business owners incorporate before they design a logo or sell their first tchotchke. Half of the high-priced attorneys in the world go nuts trying to preserve the corporate veil of their client corporations, and the other half spends hours dreaming up schemes to pierce the veil of others.
Even if corporate officers, directors, or major shareholders breach their fiduciary responsibility to the company by gross negligence or bad faith they are generally protected by this shield unless the party who is harmed or to whom money is owed can prove the commission of wrongful acts. According to NOLA.com, “the corporate veil can be pierced when shareholders have acted intentionally and illegally, when the corporation has neglected corporate formalities, and/or when the corporation is found to be a mere alter ego of the shareholders (a shield set up to defraud creditors).”
“A mere alter ego of the shareholders.” Isn’t that exactly what Hobby Lobby, the Conestoga cabinet company, and other such litigants are claiming? That the corporations they “closely hold” share their beliefs and faith? It is usually a third party that destroys the immunity; in this case the Greens and the Hahns appear to be doing it themselves — more than piercing they are figuratively rending the veil and passing their religion through.
Under the legal doctrine governing this issue the courts may decide not to observe the separation of the corporate entity from its stockholders, and it may deem the corporation’s acts to be those of the persons or organizations actually controlling the corporation. This is based upon a finding by the court that the corporate form is used to perpetuate a fraud, circumvent a statute, or accomplish some other wrongful or inequitable purpose.
Newborne said he had filed a brief with the court in the Hobby Lobby case in which he warned businesses to “be careful what you wish for.” He told Ari Melber, who was guest hosting The Ed Show, that the veil is key to a well-functioning corporation because it means “shareholders can invest and not have to worry that if the corporation goes bust they (the creditors) will go after the shareholders.”
Corporations can own other corporations, create pyramids of businesses, and that is where the overseas money is, Newborne said. Overseas subsidiaries hold the cash. But while Newsome didn’t get into it, it isn’t just a matter of shielding money or protecting stockholders, directors, and officers from the company’s debt. There are other kinds of liability.
When I worked for the FDIC, we found even many of the small banks we closed had subsidiaries, sometimes dozens of them. They were formed to protect the bank against civil and criminal liability from actions on the ground such as sketchy land deals or developments that skirted EPA regulations, even banking rules. FDIC went to great lengths – a whole department in my office did nothing else – to protect that corporate veil until each subsidiary could be disbanded or taken into bankruptcy without endangering FDIC as receiver of the holding company. The corporate veil protected many an executive from criminal prosecution even as banks and mortgage companies paid millions in fines in the last round of housing and financial market hanky-panky.
“If you can pierce the corporate veil,” Newborne said, “by a shareholder saying ‘Hey, just treat me the same as the corporation,’ why can’t it be pierced in the other direction. Why can’t a creditor do it? Why can’t the IRS do it and say, forget the wall, it’s a phony wall.”
Melber, an attorney himself, concluded the segment with the logical assessment. “Either that wall doesn’t mean anything or its one way only, for corporate interests. And that’s a hard place for the court to be.”
It is also a hard place for the country to be.
It is inevitable that before long someone will file a lawsuit against a legally pious corporation. What happens if the plaintiff sees more chance of recovery on the back side of the veil than on the front and the courts agree? Aren’t the Hahns, Greens, or owners and their millions vulnerable? If the veil is no longer inviolate it could change the nature of investment, even innovation. Would venture capitalists or angels go near the start-up market knowing that a Hobby Lobby stunt by the CEO could put their entire net worth at risk?
More likely the courts will hold that, despite that unsightly hole ripped by SCOTUS, the protection of shareholders is still complete. Then we will no longer need to wonder just how much further five brazen men in robes will dare to push the interests of businesses over those of individual citizens.