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Corporate Veil Pierced In Recent Decision

Last week, while discussing the G4S case, I suggested that efforts to collect judgments by piercing the corporate veil may be better left for post-judgment proceedings supplemental.  With facts and circumstances like those in Longhi v. Mazzoni, 2009 Ind. App. LEXIS 2093 (Ind. Ct. App. 2009) (.pdf), however, clearly a pre-judgment effort to pierce can be appropriate.  Unlike the G4S case, Longhi involved very specific allegations and evidence of fraud.  In fact, the plaintiffs did not even name as defendants the corporate entities in question.  The plaintiffs proceeded directly against the alleged bad actor (corporate agent/representative) under the veil-piercing theory. 

Facts, distilled to their essence.  Veil-piercing cases tend to be very fact sensitive, so I must gloss over the facts.  The underlying corporate entities were in the business of residential real estate development.  The defendant was a shareholder/officer in the entities.  The defendant negotiated to build the plaintiffs a house at a 50% discount.  The plaintiffs entered into a purchase agreement.  The executed documents provided that the $50,000 paid by the plaintiffs was an earnest money deposit.  But other facts showed that the corporate entities actually intended the $50,000 to be an investment in the development project and not a standard earnest money deposit.  The entities never built the plaintiffs’ house, never deeded the real estate to them and never refunded the $50,000.

Piercing issues.  Longhi has a nice outline of the general rules applicable to piercing the corporate veil, which rules and policies I have posted here before.  Of the eight factors typically weighed by Indiana courts in deciding whether to pierce the corporate veil, the Court of Appeals focused in detail on (1) undercapitalization and (2) whether the defendant used the corporate entities to promote fraud

Undercapitalization.  The Court cited to a definition of “inadequate capitalization” as “capitalization very small in relation to the nature of the business of the corporation and the risks attendant to such business.”  The Court stated that the adequacy of capital is measured “by evaluating the amount of capital the company had at the time of its formation, unless the company at some point substantially expands the size or nature of its business with an attendant increase in business hazards.”  Again, these veil-piercing cases tend to be very fact-sensitive, meaning that courts typically must evaluate many pieces of information and documentation.  One should read the opinion for a more in-depth analysis of the facts.  In the end, the Court affirmed the trial court’s findings, which included (1) that the developers needed, but didn’t have, $400,000 at the time of the venture’s formation and (2) that the developers hoped to raise sufficient capital through large down payments.  The main point here is that undercapitalization may be a factor in veil-piercing cases and that the Longhi case provides guidance on the issue. 

Promotion of fraud.  The Court also affirmed the trial court’s decision as to the fraud element of the veil-piercing claim.  The alleged fraud centered upon the plaintiffs’ belief that they were making an earnest money deposit on a house, not an investment in the development project.  One of the critical facts was that the purchase agreement required the plaintiffs’ $50,000 to be placed into a broker’s trust account, but the money instead went to a corporate account used to finance the development of the project. 

Although not mentioned in the opinion, I’m guessing that that the plaintiffs in Longhi knew the corporate entities were judgment-proof, so the plaintiffs focused all of their energies on recovering their 50k from the key player in the transaction through a direct veil-piercing suit.  The plaintiffs succeeded in obtaining a judgment, which included treble damages, that the Court of Appeals affirmed.

Veil-Piercing Claim Better Left For Proceedings Supplemental

A recent decision by Magistrate Judge Jane Magnus-Stinson in the Southern District of Indiana, G4S Justice Services, Inc. v. Correctional Program Services, Inc., 2009 U.S. Dist. LEXIS 88689 (S.D. Ind. 2009) (.pdf), explains, albeit indirectly, why efforts to collect judgments by piercing the corporate veil are more appropriate in the context of proceedings supplemental.   

Strategic decision.  In G4S, the plaintiff pursued a strategy I have seen but have never myself utilized.  The plaintiff filed a lawsuit against a defendant corporation seeking, among other things, damages for breach of contract.  The contract/debt was not personally guaranteed by the owners of the corporation.  Nevertheless, the plaintiff included a cause of action seeking to pierce the defendant’s corporate veil and named the corporation’s shareholders, personally.  I’ve posted about veil piercing before, most recently on January 19, 2009

Dismissal, on technicality.  The Court’s opinion arose out of the defendant shareholders’ pre-trial motion for judgment on the pleadings seeking a dismissal of the count asserted against them.  The Court held that the plaintiff’s veil-piercing allegations in the complaint were conclusory and did not contain any details “that would plausibly justify concluding that [defendant corporation] did in fact [fraudulently] pay the [shareholders’] personal obligations.”  The Court seemed to feel that the allegations were not based upon anything other than speculation.  The Court therefore dismissed the count related to the defendant shareholders:  there was a “complete absence of any allegations that would justify piercing [defendant corporation’s] corporate veil.”

Better strategy.  In dicta (legalese for “opinions of a judge which do not embody the resolution or determination of the court,” Black’s Law Dictionary), Judge Magnus-Stinson suggested that veil-piercing claims are better left for post-judgment proceedings.  In the event the plaintiff in G4S subsequently obtained a money judgment that the assets of the defendant corporation could not satisfy, the plaintiff would have the ability to conduct proceedings supplemental, a post-judgment proceeding I touched upon on June 29, 2007.  Proceedings supplemental, commonly referred to by lawyers as “pro supp,” are equitable in nature and “permit the judgment-creditor to discover and obtain property held by third-parties that ought to be used to satisfy the judgment.”  For example, in that process:

The judgment-creditor can obtain access to the judgment-debtor’s books and records.  See Fed. R. Civ. Pro. 69(a)(2); Ind. T.R. 69(E)(4).  Using information obtained from those sources, judgment-creditors can—and do—argue that a court should pierce the judgment-debtors’ corporate veil and make their shareholders’ assets available to satisfy the judgment.

Later, perhaps.  The Court made it clear that the dismissal of the defendant shareholders was without prejudice (not final or permanent) and that the plaintiff could revisit veil-piercing during proceedings supplemental “in the event it obtains a judgment against [defendant corporation], and assuming that it can obtain evidence to support the imposition of such a remedy.” 

The notion is that there is a time and place for piercing the corporate veil - during post-judgment proceedings, not during the litigation of the underlying claims.  Perhaps other judges or lawyers may feel differently, but I share the Court’s view in G4S.  Please e-mail or post a comment with your thoughts.

Known Judgment Lien Is Purchaser’s Downfall In Recent Lien Enforcement Case

Judgment liens and the bona fide purchaser doctrine are topics in the Indiana Court of Appeals’ decision in Lobb v. Hudson-Lobb, 2009 Ind. App. LEXIS 1630 (Ind. Ct. App. 2009) (Lobb.pdf) .  The case arises out of a trial court’s order to sell real estate to satisfy a judgment lien created by a prior divorce decree.  As explained, the purchaser acquired the property subject to an enforceable judgment lien.

The setting.  Lobb involved Husband, Wife and the husband’s Parents.  Husband filed for divorce, which resulted in a decree that in part granted Husband title to real estate previously owned jointly by the couple.  The decree also provided that Wife receive $50,000 for her interest in the real estate, plus another $167,000 in cash.  Wife deeded her interest in the real estate to Husband and received the required $50,000.  Although Wife received additional cash payments, the entire amount owed by Husband remained unpaid when Husband deeded the real estate to Parents.  Wife later filed the subject action against Parents to foreclose her judgment lien on the real estate.  The trial court rendered a foreclosure judgment in favor of Wife that led to the subject appeal.

Valid lien?  The first issue addressed in the Lobb opinion was whether the money judgment in the divorce decree constituted an enforceable judgment lien.  Parents contended that the lien was not valid because it was not recorded with the county recorder’s office.  In Indiana, a judgment lien is purely statutory, and Ind. Code § 34-55-9-2 provides that all final judgments for the recovery of money constitute a lien upon real estate in the county where the judgment has been “entered and indexed . . ..”  T.R. 58(A) states, in part, that the court shall promptly prepare and sign the judgment, and “the clerk shall thereupon enter the judgment in the Record of Judgments and Orders” (commonly known in Indiana as the “judgment docket”).  This step is an act to be performed by the county clerk, not the parties.  As such, Wife was not required to cause the decree to be entered in the judgment docket.  Perfection of judgment liens in Indiana essentially occur automatically and do not involve recordation in the recorder’s office. 

BFP defense defeated.  The Lobb opinion suggests that it was not entirely clear whether the divorce decree had been entered into the judgment docket.  Nevertheless, the Parents lost the case because it was clear that they had prior, actual knowledge of Wife’s judgment lien.  Parents asserted that Wife’s foreclosure action should be defeated because Parents were bona fide purchasers without notice - a doctrine I’ve discussed here previously.  But the Court noted that “the controlling and dispositive fact is that the [Parents] had actual notice of Wife’s judgment lien.”  Before buying the real estate, Parents had a copy of the decree and knew the decree awarded wife $167,000.  In Indiana, “a person with actual notice is bound by the terms of a valid instrument, even when that instrument has not been recorded so as to provide constructive notice.”  The Court concluded Parents were bound by such decree:

[Parents] are not bona fide purchasers and, thus, they have not shown that they are exempt from execution levy.  In sum, this case does not involve a good faith purchaser of the property for value and without notice, and our holding is limited to situations in which the purchaser of the property has actual knowledge of the unsatisfied judgment lien.

Points.  The primary thing secured lenders can take away from Lobb is that any money judgment they obtain in Indiana automatically becomes a lien on real estate owned by the defendant in the county where the judgment was entered.  Unlike with mortgages, deeds, etc., there is no need in Indiana to separately record the judgment with the recorder’s office.  A secondary point from Lobb is that proof of a purchaser’s actual knowledge of an adverse lien will prevent the purchaser from utilizing the bona fide purchaser defense to defeat the lien enforcement action.