Limitation of personal liability is commonly considered one of the key benefits of incorporation. As a corporation and its shareholders are separate legal entities, incorporation allows business owners to keep business risks and liabilities within the corporation and limit their personal exposure. However, this limitation of liability is not absolute. This post will discuss the doctrine known as “piercing the corporate veil” whereby courts may look beyond the corporation and hold individual shareholders liable.
As separate legal entities or persons, corporations may enter into contracts, incur debt, and can be sued by third parties. Where a claim against a corporation makes its way to court, as a general rule, Canadian courts will not look beyond the corporation to hold individual shareholders liable. This concept of shareholder immunity is found in corporate legislation with the exception of instances where shareholders owe money to the corporation, where shareholders have assumed the rights, power, duties and liabilities of directors of the corporation pursuant to a unanimous shareholders agreement, and where shareholders have received a distribution from the corporation in circumstances where such property should properly have been distributed to creditors of the corporation.
Plaintiffs making claims against a corporation may also try to bring claims against individual shareholders in order to seek recovery from shareholders with deep pockets. However, given the separate legal status of corporations from their shareholders and the statutory immunity of shareholders, it is rare for courts in Canada to “pierce the corporate veil” and look beyond the corporation to individual shareholders. A court’s decision to pierce the veil is always fact specific and differs in the circumstances of every case. Courts will consider whether a corporation has been set up for the purpose of insulating individuals from liability for fraudulent or dishonest conduct, or where the corporate structure is a sham with no proper business purpose.
Although it is rare for courts to pierce the corporate veil and find shareholders liable, the inconvenience and cost of defending such a claim can be burdensome. There are a number of things prudent shareholders can do which can be helpful in a situation where a third party brings a “veil-piercing” claim against them. Shareholders and directors should consistently keep minutes of meetings and should store those minutes in the minute book of the corporation which is typically kept by the solicitor for the corporation. In general, shareholders should be careful when doing business to make it clear that the third party is doing business with the corporation, and not the individual shareholder. For instance, it is prudent to have written contracts between the corporation and third parties rather than handshake deals. Also, where possible, it is advisable for business owners to correspond with clients on corporate letterhead or by a corporate email address rather than personal email. Although these factors are not definitive, consistent and proper business conduct and proper record keeping are an important part of the fact scenario which would inform the court about the legitimate business conducted by the corporation as a separate legal entity.
Should you require further information on this topic please contact one of the lawyers in our business law group.