Lack of Business Records Leads Massachusetts to Pierce LLC’s Veil
In Kosanovich v. 80 Worcester Street Associates, LLC, the Massachusetts Appellate Division ruled that a single-member LLC’s veil should be pierced because of poor record keeping. This case is particularly interesting because it seems inconsistent with previous rules and cases.
Here, the plaintiff bought a condominium from the single-member LLC. In the agreement between the parties, the LLC was to repair any defects of the condominium within one year of the purchase date. The LLC then failed to repair some of the defects, and the plaintiff sued for breach of contract and breach of an implied warranty. The judge not only sided with the plaintiff, but also pierced the veil, holding the member of the LLC personally liable. On appeal, the court started with the veil-piercing rule which states that the veil should only be pierced to defeat fraud or injustice. Then, the court listed 12 factors that determine if piercing the LLC’s veil was justified. These factors include:
- (1) common ownership,
- (2) pervasive control,
- (3) confused intermingling of business assets,
- (4) thin capitalization,
- (5) nonobservance of corporate formalities,
- (6) absence of corporate or LLC records,
- (7) no payment of dividends or distributions,
- (8) insolvency at the time of the litigated transaction,
- (9) siphoning away of corporation’s funds by dominant shareholder or member,
- (10) nonfunctioning of managers, or officers and directors,
- (11) use of the corporation or LLC for transactions of the dominant shareholders or members, and
- (12) use of the corporation or LLC in promoting fraud.
The court noted that when analyzing these factors, the veil-piercing was justified. In particular, the court looked to the pervasive control and poor record keeping to support the trial court’s decision. The court suggested that the poor record keeping applied to the other factors, since the LLC member could not provide documents convincing the court otherwise.
This decision seems odd because this case was not regarding fraud or injustice (the reason the court stated that veil-piercing should exist). Also, the burden of proof in this case seemed to have shifted to the LLC member by suggesting that it was this duty to keep good records to show that the 12 factors weighed in his favor. Still, one of the ways to prevent a veil piercing is to formally treat the LLC as a business. This means keeping good books and records, and following the formalities of ordinary businesses.