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Current Developments in the Commercial Divisions of the
New York State Courts by Schlam Stone & Dolan LLP
Posted: August 1, 2020

Court Allows Reverse Veil-Piercing Claims to Go Forward

On July 16, 2020, Justice Scarpulla of the New York County Commercial Division issued a decision in Ezra v. Wilton Group, Inc., 2020 NY Slip Op. 32351(U), allowing reverse veil-piercing claims to go forward, explaining:

In opposition, defendants first argue that, because most of the defendants are Delaware entities, New York’s choice of law dictates that the law of the state of incorporation determines when the corporate form will be disregarded. Defendants argue that the difference between New York and Delaware law is important here because plaintiffs allege a reverse veil-piercing claim as opposed to a traditional veil-piercing claim and Delaware and Illinois do not recognize such claims.

Defendants argue that the claim is rooted in reverse veil-piercing because plaintiffs, as third parties, seek to impose the obligations of the shareholder (UCG) on its former corporate subsidiaries as opposed to traditional veil-piercing, wherein a plaintiff would seek to hold a company liable for the debts of its shareholder. Because UCG and Wilton Brands are Delaware corporations, defendants claim that reverse veil-piercing is inapplicable, and because plaintiffs would need to “pierce through” several Delaware defendants to reach either the one New York-incorporated defendant (EK Success) or the one Novia-Scotia incorporated defendant (Wilton Industries Canada Company), plaintiffs cannot maintain reverse veil-piercing claims against those defendants either.

I agree with defendants that the allegations in the PAC support a claim for reverse veil-piercing as opposed to traditional veil-piercing because plaintiffs, as third parties, seek to hold the corporate subsidiaries liable for the debts of its former shareholder in order to collect on a debt owed to plaintiffs as third parties. Further, I apply Delaware law with respect to the veil piercing claim.

Defendants claim that Delaware courts do not recognize reverse veil-piercing claims, but a more accurate statement is that the Delaware Supreme Court has not yet definitively addressed whether reverse veil-piercing claims are permitted. Recently, the United States Court of Appeals for the Fourth Circuit opined that Delaware would recognize reverse veil piercing. In that case, the Court reasoned, notably, in Delaware, disregarding the corporate fiction can always be done if necessary to prevent fraud or chicanery, a principle that would support both traditional and reverse veil piercing. Additionally, in Cancan Dev., LLC v. Manno, the Court of Chancery of Delaware held that a reverse veil-piercing claim might have prevailed if pled properly. The Court reasoned, no one grappled with the different implications [between traditional and reverse veil-piercing]. Had the claim been properly presented and supported, it might have prevailed. Under the circumstances, it fails for lack of support.

Additionally, in Klauder v. Echo/RT Holdings, LLC, the Supreme Court of Delaware stated, where the subsidiary is a mere alter ego of the parent to the extent that the Court may engage in reverse veil-piercing, the Court may treat the assets of the subsidiary as those of the parent for the purposes of a trustee’s standing to void allegedly fraudulent transfers of such assets. On this motion to amend the complaint I need not decide whether Delaware law would ever permit a claim for reverse veil piercing. That issue may properly be raised later, on summary judgment or at trial. Here, I address only whether a reverse veil piercing claim has adequately been pled.

The PAC alleges that defendants disregarded the corporate form and are alter egos of one another and UCG. To support these allegations, plaintiffs claim, among other things, that defendants used each other’s funds and assets for their own purposes defendants had, and have, an overlap in ownership, officers, directors, personnel, common office spaces, addresses and telephone numbers and that defendants are controlled by a common set of owners and management. These additional allegations in the PAC are sufficient to state a cause of action for reverse veil-piercing. I therefore grant the motion to amend the complaint to assert a veil piercing claim.

(Internal quotations and citations omitted).

This decision discusses an issue that is common in complex commercial litigation: whether an individual or another company can be held liable for a company’s actions. Contact Schlam Stone & Dolan partner John Lundin at jlundin@schlamstone.com if you or a client have questions regarding whether a third-party can be held liable for a company’s misconduct.

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