Perpetual Real Estate Services, Inc. v. Michaelson Properties, Inc.
974 F.2d 545, 1992 WL 213934 (1992)
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Rule of Law:
Under Virginia law, to pierce the corporate veil and hold a shareholder personally liable, a plaintiff must prove not only that the shareholder dominated the corporation but also that the shareholder used the corporate form as a device to disguise a legal wrong, obscure fraud, or conceal a crime; a finding of mere injustice or fundamental unfairness to a creditor is insufficient.
Facts:
- Aaron Michaelson formed Michaelson Properties, Inc. (MPI) as its sole shareholder with $1,000 in capital to engage in real estate ventures.
- MPI entered into a partnership, Arlington Apartment Associates (AAA), with Perpetual Real Estate Services, Inc. (PRES) to convert apartments into condominiums.
- The AAA partnership agreement did not contain a personal guarantee from Michaelson for the partnership's general liabilities.
- On separate occasions related to the partnership, PRES specifically negotiated and obtained Michaelson's personal guarantees for a $750,000 loan and a $1.05 million loan.
- The AAA partnership made profit distributions to both PRES and MPI after determining that sufficient assets remained to cover anticipated expenses.
- MPI subsequently distributed its profits to its sole shareholder, Aaron Michaelson.
- Over a year after the final distributions, third-party condominium purchasers sued the AAA partnership for breach of warranty.
- The lawsuit was settled for $950,000, which PRES paid in full because MPI had no remaining assets to contribute its share.
Procedural Posture:
- Perpetual Real Estate Services, Inc. (PRES) filed a diversity action against Aaron Michaelson and Michaelson Properties, Inc. (MPI) in the U.S. District Court for the Eastern District of Virginia.
- The district court granted summary judgment to PRES on its contractual indemnity claim against MPI.
- The remaining counts, including veil-piercing and an alleged oral promise by Michaelson, proceeded to a jury trial.
- At trial, the jury returned a verdict for PRES on the veil-piercing count but found in favor of Michaelson on the oral promise count.
- The district court denied Michaelson's post-trial motion for judgment notwithstanding the verdict (jnov).
- Michaelson (appellant) appealed the district court's judgment on the veil-piercing verdict to the U.S. Court of Appeals for the Fourth Circuit, where PRES was the appellee.
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Issue:
Under Virginia law, does a shareholder's domination of a corporation and use of the corporate form that results in a 'fundamental unfairness' to a creditor justify piercing the corporate veil, absent a showing that the shareholder used the corporation to disguise wrongs, obscure fraud, or conceal crime?
Opinions:
Majority - Wilkinson, Circuit Judge
No. Under Virginia's rigorous standard, piercing the corporate veil requires more than a showing of shareholder domination and a resulting 'unfairness'; a plaintiff must also establish that the corporation was used as a sham to disguise wrongs, obscure fraud, or conceal crime. The district court erred by instructing the jury based on a lesser 'injustice or fundamental unfairness' standard, which is not the law in Virginia. Courts are especially reluctant to pierce the veil in contract cases where sophisticated parties, like PRES, knowingly and voluntarily transact with a corporate entity. The fact that PRES negotiated for Michaelson's personal guarantees on specific loans, but not on the general partnership liabilities, demonstrates that PRES accepted the risk of MPI's limited liability. The court will not rewrite the parties' contract to provide PRES with a personal guarantee it failed to secure at the bargaining table.
Analysis:
This decision strongly reinforces the sanctity of the corporate form and the principle of limited liability in Virginia, particularly in the context of contractual relationships between sophisticated parties. It clarifies that the high threshold for piercing the corporate veil requires proof of actual wrongdoing, not merely an outcome that seems inequitable in hindsight. The ruling places a heavy burden on parties contracting with thinly capitalized corporations to protect themselves through explicit personal guarantees, rather than relying on courts to disregard the corporate entity later. For future cases, this precedent makes it significantly more difficult for a creditor to pierce the veil in a contract setting without clear evidence of misrepresentation or fraud.
