Commercial Litigation and Arbitration

Outside Reverse Piercing of Corporate Veil Rejected under California Law — Bi-Directional Alter Ego Doctrine Distinguished

From Greiling v. Zahoudanis, 2009 U.S. Dist. LEXIS 22890 (C.D. Cal. Mar. 13, 2009):

Although Plaintiff attempts to apply an alter ego theory, the instant factual scenario calls for application of the outside reverse piercing theory. Plaintiff, a third party creditor, seeks to pierce the corporate veil from the outside, attempting to have the Corporate Defendants satisfy the claims against the Individual Defendants. As the California Court of Appeal notes: "standard alter ego and outside reverse piercing are actually different theories." ... As a result, the Court will discuss California's stance on outside reverse piercing.

[Footnote 3] Plaintiff cites to Mesler v. Bragg Mgmt. Co., 39 Cal. 3d 290, 216 Cal. Rptr. 443, 702 P.2d 601 (Cal. 1985), claiming that Mesler is controlling with regards to outside reverse piercing. In Mesler, the California Supreme Court stated that "[w]hen [the corporate statutory privilege] is abused it will be disregarded and the corporation looked at as a collection or association of individuals, so that the corporation will be liable for acts of the stockholders or the stockholders liable for acts done in the name of the corporation." While this essentially implies a "bidirectional alter ego doctrine" …, it does not specifically address outside reverse piercing. The California Court of Appeal spoke directly to Mesler, stating that "Mesler was a traditional alter ego case, not a reverse piercing case, and therefore does not compel us to accept reverse piercing." Postal Instant Press, Inc., 162 Cal App. 4th at 1519. Further, the Postal court noted that "[w]hether to accept or reject the [outside reverse piercing] doctrine [was] an issue of first impression in this state." ….

"[O]utside reverse piercing is a radical and problematic change in standard alter ego law." Postal Instant Press, Inc., 162 Cal App. 4th at 1521. While reverse piercing and the traditional alter ego doctrine have similar goals, the doctrines achieve those goals in a very different manner.... "Traditional piercing of the corporate veil is justified as an equitable remedy when the shareholders have abused the corporate form to evade individual liability, circumvent a statute, or accomplish a wrongful purpose." ... Outside reverse piercing does not seek to remedy the misuse of the corporate form to shield the individual shareholder…. "Rather, the issue addressed by outside reverse piercing is the shareholder's transfer of personal assets to the corporation to shield the assets from collection by a creditor of the shareholder. In other words, outside reverse piercing seeks to protect the judgment creditor from the shareholder's fraudulent transfer of assets to the corporation." ... While some courts have applied outside reverse piercing, California courts recognize that such a remedy is "an unacceptable shortcut" because "conversion and fraudulent conveyance already afford judgment creditors [an adequate remedy]." ... As this Court must apply California law, it must reject application of the outside reverse piercing doctrine in this case.

[Footnote 4] In rejecting outside reverse piercing, the California Court of Appeal adopted the Tenth Circuit's reasoning in Cascade Energy and Metals v. Banks, 896 F.2d 1557, 1577 (10th Cir. 1990). The Tenth Circuit identified three significant problems with the doctrine. "First, [outside] reverse piercing 'bypasses normal judgment-collection procedures, whereby judgment creditors attach the judgment debtor's shares in the corporation and not the corporation's assets.' Second, . . . to the extent that the corporation has other non-culpable shareholders, they obviously will be prejudiced if the corporation's assets can be attached directly. In contrast, in ordinary piercing cases, only the assets of the particular shareholder who is determined to be the corporation's alter ego are subject to attachment." Postal Instant Press, 162 Cal. App. 4th at 1520 (citing Cascade, 896 F.2d at 1577). Third,"recognized legal remedies adequately protected creditors from fraud." ... Thus, "more traditional theories of conversion, fraudulent conveyance of assets, respondeat superior and agency law are adequate to deal with situations where one seeks to recover from a corporation for the wrongful conduct committed by a controlling stockholder without the necessity to invent a new theory of liability." ...

The Court therefore concludes that Plaintiff's outside reverse piercing theory, alleged as an alter ego theory, fails as a matter of law.

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