Flipping Doctrine on Its Side: Pennsylvania Supreme Court Considers Case That Would Authorize “Horizontal” or “Single Enterprise” Veil Piercing for the First Time
Pennsylvania courts allow plaintiffs to pierce the corporate veil to rope into liability a dominant shareholder or the owner of a business that has been held legally responsible for contract breach or tort wrong. While courts in other jurisdictions have been quite specific about what a plaintiff must prove to justify the extraordinary relief of holding one person liable for an entity’s wrongdoing, Pennsylvania (at least at the highest level) stands out for giving practitioners only general guidance. As one lower court explained: “[T]here appears to be no clear test or well settled rule in Pennsylvania … as to exactly when the corporate veil can be pierced and when it may not be pierced.” Fletcher-Harlee Corp. v. Szymanski, 936 A.2d 87, 95 (Pa. Super. 2007).
The most recent guidance from the Pennsylvania Supreme Court was a statement that the corporate veil will be pierced “whenever justice or public policy demand[s], such as when the corporate form has been used to defeat public convenience, justify wrong, protect fraud, or defend crime.” Shapiro v. Golden Gate Nat’l Senior Care LLC, 194 A.3d 1010, 1035 (Pa. 2018). Lower courts, for their part, have required a showing that “the corporate form is a sham, constituting a façade for the operations of the dominant shareholder.” Mark Hershey Farms, Inc. v. Robinson, 171 A.3d 810, 816 (Pa. Super. 2017). They weigh “whether corporate formalities have been observed and corporate records kept,” “whether officers and directors other than the dominant shareholder himself actually function,” “whether the dominant shareholder has used the assets of the corporation as if they were his own,” whether the business is undercapitalized, and whether personal and corporate interests have been commingled. Id.; Kellytown Co. v. Williams, 426 A.2d 663, 668 (Pa. Super. 1981); Lumax Indus., Inc. v. Aultman, 669 A.2d 893, 895 (Pa. 1995).
Up to now, Pennsylvania has only disregarded the corporate form and pierced by reaching upward, so-called “vertical piercing”: Do the facts support disregarding the limited liability afforded by the corporate form to hold the individuals situated above the corporation (its dominant or controlling owners) personally liable for corporate wrongdoing? Courts and litigants in the Commonwealth sometimes characterize this as a question of “alter ego”: Does the controlling owner so dominate and control the business that the business has no legal personality beyond the corporate fiction and is not separate or distinct from the owner? Think of a ventriloquist and dummy.
In June 2020, the Pennsylvania Supreme Court granted a Petition for Allowance of Appeal that has the potential to flip the state’s piercing doctrine on its head—or, more accurately, on its side. The issue presented to the Supreme Court is one of horizontal, not vertical, piercing, phrased by the appellant as follows: Should the Court, as a matter of first impression, adopt the “enterprise” or “single entity” theory of piercing “to prevent injustice when two or more sister companies operate as a single corporate combine”? Mortimer v. McCool, 236 A.3d 1043 (Pa. 2020). (Because the lower court also had occasion to decide vertical piercing, ruling against the plaintiff, the case also presents the Court another chance to offer more guidance on traditional piercing.)
If adopted, the enterprise theory would expand the law to allow Pennsylvania litigants and courts to pierce laterally, attaching liability for a corporation’s debts to related or affiliated business entities that share common ownership and functionally operate, together with the debtor corporation, as a single entity. In jurisdictions that recognize it, single enterprise piercing has proven useful to plaintiffs, allowing them to lay claim to the assets of affiliated (but not primarily liable) corporations, both for compensatory and punitive damages and for contract and tort claims.
Lower courts in Pennsylvania, while acknowledging that the doctrine has not yet been adopted, have identified factors relevant to the horizontal piercing analysis: “identity of ownership,” “unified administrative control,” similar, overlapping, or supplementary business functions, involuntary creditors, and the insolvency of the debtor corporation. Miners, Inc. v. Alpine Equip. Corp., 722 A.2d 691, 695 (Pa. Super. 1998). In 2009, a Pennsylvania federal bankruptcy court predicted that the state Supreme Court would adopt the “single entity” theory, but only where its application is needed to remedy or prevent fraud or injustice. In re LMcD, LLC, 405 B.R. 555, 565 (Bankr. M.D. Pa. 2009). We will soon know if that prediction was right.
The case before the Court began as a dram shop tort action. Then-plaintiff Ryan Mortimer secured a multi-million-dollar personal injury award against a series of defendants for injuries sustained when her vehicle was hit by an intoxicated driver. Among the trial defendants against whom judgment was entered was 340 Associates, a limited liability company owned by brothers Andy and Chris McCool, which had been formed for the sole purpose of buying and holding the liquor license for the restaurant that later served the intoxicated driver. Andy and Chris also owned McCool Properties, a separate LLC that owned the building where the restaurant was located and that served as the restaurant’s lessor. McCool Properties was not a party to the dram shop suit.
Unable to recover the full judgment awarded at trial, Mortimer initiated a separate action against 340 and McCool Properties, seeking (among other things) to pierce 340’s corporate veil to hold McCool Properties liable for the unpaid remainder of the judgment 340 owed her in the dram shop action. One of her theories was enterprise or single entity liability—i.e., that the court should allow her to pierce horizontally through 340 to McCool Properties, given the overlapping ownership and management of the two entities and facts suggesting wrongdoing designed to prevent payments moving from McCool to 340 that otherwise would have been subject to the previously-entered judgment. The trial court and Superior Court each rejected Mortimer’s claims, with the latter explaining that it was constrained not to consider Mortimer’s enterprise theory claims because the doctrine has not been adopted in Pennsylvania and because it is not the intermediate appellate court’s prerogative to announce new law or expand existing doctrines, but noting that Mortimer may well “present a meaningful case that 340 … and McCool Properties should be treated as one entity” and “empathizing” with Mortimer’s “frustration over this result.” Mortimer v. McCool, No. 3583 EDA 2018, 2019 WL 6769733 (Pa. Super. Dec. 12, 2019).
Oral argument before the Supreme Court was held in late 2020. An amicus brief arguing against adoption of the enterprise theory came from the United States Chamber of Commerce, the National Federation of Independent Business, and others, who argued, among other things, that a new piercing theory and any attendant uncertainty in the prevailing legal framework could throw the state’s corporate law “into upheaval” and inhibit its ability to attract “new and innovative businesses.” The amici identified other practicalities, noting that allowing piercing among businesses with some level of overlapping ownership would disincentivize small and family businesses, many of whom rely on the LLC structure, from expanding or generating new business lines. It could also, the amici argued, negatively impact medical practices small and large, allowing a judgment against one practitioner or hospital to be pursued against the separate entities that own the practice’s physical space or sister hospitals or facilities within a shared system.
Legitimate industry group objections aside, it seems possible, if not likely, that the Supreme Court will adopt some version of the enterprise theory and allow horizontal piercing. To be consistent with its existing case law, one would expect any adoption of the theory to be extremely limited, focused on situations in which one business enterprise is little more than a sham cover for another, designed to avoid liability and obstruct creditors, and where piercing is necessary to prevent fraud or crime. To avoid the risk of piercing, either up/down or sideways, owners of related or affiliated business entities should organize their businesses prophylactically: ensure adequate capitalization of entities across their portfolio, foster compliance with corporate formalities, and avoid commingling business assets, employees, and resources by maintaining discrete and separate lines of operations even if there may be some shared functionality and staff. In other words, keep a roof over your head (vertical piercing) and your companies in their own silos (horizontal piercing). Mere common business ownership, the use of the same resources (if properly accounted for), or pursuit of similar or complementary endeavors, should not justify horizontal piercing. After all, the purpose of corporate formation is to limit liability to the assets of the entity formed; this is, and never has been, a justification for ignoring the corporate form.
Finally, the Supreme Court should give clarity to the law on horizontal piercing. As the bankruptcy court suggested, an independent requirement for any piercing must be fraud in the use of the corporate form. While other states, New Jersey among them, employ the language of “fraud or injustice,” they carefully cabin “injustice” to instances of criminality or gross and intentional wrongdoing akin to fraud. Better to leave out “injustice” altogether. It would be useful, too, for the Supreme Court to recognize, as have other courts in other states, the purpose of the LLC form and the relative freedom it grants those who adopt that manner of organizing their economic affairs.
The old joke has the lost traveler being told: “You can’t get there from here.” Perhaps the Pennsylvania Supreme Court will put a new destination on the map of non-wrongdoer liability: east or west of the corporation in addition to north. But that is not enough. Careful directions are needed to tell both businesses and the lower courts how to get to the old and any new liability sites.