One of the major advantages of incorporating is the creation of a “corporate veil.” The corporate veil prevents shareholders from being liable for corporate obligations. If a plaintiff is successful in piercing the corporate veil, the shareholders will be personally liable to the plaintiff for the corporate obligations at issue.
Recently, the Ohio Supreme Court in Dombroski v. WellPoint, Inc., 119 Ohio St.3d 506, modified the 3 part test required to pierce the corporate veil. The original three part test was created by the Ohio Supreme Court in 1993, in the case of Belvedere Condominium Unit Owners’ Assn. v. R.E. Roark Co., Inc. (1993), 67 Ohio St. 3d 274. In Belvedere, the Ohio Supreme Court held that a plaintiff can pierce the corporate veil when:
- Control over the corporation by the defendant is so complete that the corporation has no separate mind, will, or existence of its own;
- Control over the corporation by the defendant is exercised in such a manner as to commit fraud or an illegal act against the person seeking to disregard the corporate entity; and
- Injury or unjust loss resulted to the plaintiff from such control and wrong.
Since the announcement of the Belvedere test fifteen years ago, Ohio courts have disagreed whether the second Belvedere prong would be satisfied upon a showing of unjust and inequitable acts or if a party was required to show fraudulent or illegal conduct. Dombroski confronted this issue and held that a showing of fraudulent or illegal conduct was required.
In the Dombroski case, Kimberly Dombroski suffered from a loss of hearing in both ears and her treating physician determined it was medically necessary to receive a cochlear implant. After the implant, Ms. Dombroski regained hearing in her left ear; however she remained deaf in her right ear. As a result, her treating physician determined it was medically necessary to install a second cochlear implant. Ms. Dombroski’s insurance company, Community Insurance Company, (“CIC”) determined that the second implant was “investigational” and thus not covered under the terms of her health insurance. As a result, Dombroski filed suit alleging bad faith and breach of contract against CIC, Anthem UM, Anthem Insurance and CIC’s parent company WellPoint. Dombroski sought to pierce CIC’s corporate veil to hold WellPoint, the shareholder, liable for the tort of bad faith. The trial court dismissed the action, but the 7th District Court of Appeals reversed the dismissal relying upon case law which held unjust and inequitable conduct was sufficient to satisfy the second Belvedere prong and to pierce the corporate veil.
The Ohio Supreme Court reversed concluding that the second element of the Belvedere test did not allow piercing of the corporate veil for unjust and inequitable acts. The Ohio Supreme Court acknowledged that there are compelling reasons to expand the second prong of the Belvedere test to include unjust and inequitable acts.
However, the Supreme Court adhered to the principal announced in Belvedere that required a showing of fraudulent or illegal conduct to pierce the corporate veil. Further, the Court held that “ . . . piercing the corporate veil is the ‘rare exception’ that should only be ‘applied in the case of fraud or certain other exceptional circumstances.’” Id. at ¶26. “Adding unjust or inequitable conduct to the second prong of the Belvedere test significantly increases the number of cases in which a Plaintiff could pierce the corporate veil.” Id. at ¶22. The policy behind the Ohio Supreme Court’s decision is that allowing only a showing of unjust or inequitable conduct to satisfy the second prong would not provide adequate protection for small business owners:
Were we to allow piercing every time a corporation under the complete control of a shareholder committed and unjust or inequitable act, virtually every close corporation could be pierced when sued, as nearly every lawsuit sets forth a form of unjust or inequitable action and closed corporations are by definition controlled by an individual or small group of shareholders. Id. at ¶27.
However, the Ohio Supreme Court did not stop at determining that unjust or inequitable acts were insufficient to satisfy the second prong, but further modified the second prong of Belvedere to allow piercing upon a showing of fraud, an illegal act or a similarly unlawful act. The Ohio Supreme Court made clear that piercing of the corporate veil is only available “ . . . in the event that egregious wrongs are committed by shareholders.” Id. at ¶28. The Ohio Supreme Court instructed lower courts to “apply this limited expansion cautiously toward the goal of piercing the corporate veil only in instances of extreme shareholder misconduct.” Id. at ¶29. Ultimately, the Ohio Supreme Court in Dombroski reversed the appellate court’s decision and held that even under the newly revised second prong of Belvedere, “[i]nsurer bad faith is a straightforward tort and an example of unjust conduct which does not represent the type of exceptional wrong now required to pierce of the corporate veil.”
The Ohio Supreme Court’s decision in Dombroski, provides relief to small business owners and closely held corporations who were most at risk to have the corporate veil pierced under prior law.
If you have any questions concerning this alert, please contact Attorney Matthew R. Hunt (email@example.com) at 330-497-0700.
NOTE: This general summary of the law should not be used to solve individual problems since slight changes in the fact situation may require a material variance in the applicable legal advice.