The alter ego theory establishes that people can be liable when they are using a corporation to engage in fraud and shield themselves from liability. While courts have long recognized most business entities as being legitimately free from liability, the alter ego theory allows courts to impose liability on bad actors.
Texas Laws Relating to Alter Ego
To determine whether the alter ego theory applies, a court can evaluate all dealings between shareholders and a corporation and evidence regarding whether corporate formalities were followed and to what degree; whether corporate and individual property were kept separate; the amount of financial interest, ownership, and control a person has over a company; and whether a corporation has been used for personal purposes. Texas Business Organizations Code § 21.223 does hold, however, that owners cannot be liable for the obligations of a corporation based on mere failure to observe corporate formalities.
Business owners and corporate members who hope to avail themselves of the liability protections of incorporation must abide by corporate principles and maintain a clear separation between their personal and corporate affairs. When this is not the case, certain acts could indicate that a corporation is actually an alter ego.
Some of the problematic acts could include:
- Mingling corporate and personal funds
- Owners use corporate accounts as their personal funds to pay personal debts
- Owners paying corporate debts with their own funds
- One corporation owning another corporation and using the same resources, location, and staff
- Failure to properly capitalize a corporation
- Forming a corporation solely to transfer personal debts
- Not complying with corporate requirements like stock issuance or holding meetings
Recent Alter Ego Case Law
Just last year, the Fifth Circuit United States Court of Appeals heard United States v. Lothringer, No. 20-50823 (5th Cir. Oct. 8, 2021), a case in which the question presented was whether Arthur Lothringer could be held personally liable for his corporation’s failure to pay taxes. The United States District Court for the Western District of Texas said he could, and the Fifth Circuit United States Court of Appeals affirmed that decision.
Lothringer formed Pick-Ups, Inc., and the company ran used car lots. Lothringer acted as sole director, officer, and shareholder and had complete dominion and control over Pick-Ups, Inc.
The United States sued Lothringer, his wife, and Pick-Ups, Inc. to collect federal taxes. The district court determined that Pick-Ups, Inc. owed $1,777,047.98 in federal taxes, PickUps, Inc. was Lothringer’s alter ego, and awarded the federal government the proceeds from the sale of Lothringer’s properties and his cabin minus his wife’s homestead interest.
The Fifth Circuit cited the case of Ledford v. Keen, 9 F.4th 335 (5th Cir. 2021), in which the Fifth Circuit wrote that “Texas law permits courts to ‘disregard the corporate fiction … when the corporate form has been used as part of a basically unfair device to achieve an inequitable result.’”
Call Us Today to Speak with a Texas Corporate Attorney
If you have concerns about how any of these laws might impact your company, make sure you have legal representation. An experienced Texas corporate lawyer will be able to help ensure you properly comply with any new requirements.
Structure Law Group, LLP understands all of the various state laws in Texas and knows how they can impact business owners. Call (512) 881-7500 or contact us online to set up a consultation with our Texas corporate attorney.