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Piercing the Corporate Veil - NJ's Expanding Application to the Limited Partnership[1]

By Fernando M. Pinguelo and Kristen M. Welsh

NJ’s Expanding Application to the Limited Partnership

In a case of first impression in New Jersey, the state’s appellate court extended corporate veil piercing — the equitable principle of imposing liability to individuals generally protected by statute — to limited partnerships under certain conditions. Following Delaware’s lead, the court held that corporate veil piercing may be applied in the limited partnership context if an individual partner’s actions exceed the bounds of the limited partnership statute’s "safe harbor," which offers protections and limits liability, or the partner clearly and convincingly "dominates" the partnership and uses it to perpetrate a fraud or injustice.

Facts

In Canter v. Lakewood of Voorhees, et al., ___ N.J. Super. ___ (App. Div. 2011), 2011 WL 2536176 (Jun. 28, 2011), plaintiff brought a negligence action arising from injuries he sustained while at Lakewood of Voorhees LP, a New Jersey-licensed long-term care facility (hereinafter "nursing home" or "Lakewood").

The Parties

Defendant Lakewood of Voorhees LP is a limited partnership formed pursuant to New Jersey’s Uniform Limited Partnership Law (1976) ("NJULPL"), N.J.S.A. 42:2A-1 to -73. Seniors Healthcare, Inc. ("SHI") is a limited partner in the nursing home, holding an 84.12% interest in the partnership. SHI is the sole shareholder of co-defendants Ozal of Lakewood, Inc. ("Ozal") and Senior Management-North, Inc. ("SMN"). Ozal is Lakewood’s general partner and holds a 1% interest in the nursing home.

SMN provides accounting, billing, group-purchasing, support and professional-consulting services to the nursing home, but does not have an ownership interest in the nursing home. Defendant Steven Lazovitz is Ozal’s sole director. He is also a director, officer, and majority shareholder of SHI, a former general and limited partner of Lakewood, and a former officer of SMN.

The Lower Court’s Ruling

Plaintiff retained an expert ostensibly to expand its claim for liability, and the expert opined that Lakewood, SHI, and SMN operate as one seamless, long-term care operation. Sensing plaintiff’s underlying intent to use this conclusion to impose liability on SHI for Lakewood’s negligence, SHI filed a motion for partial summary judgment. SHI’s motion proffered, in part, that corporate-veil-piercing principles do not apply to a limited partnership, but instead the NJULPL alone governs a limited partner’s liability to third parties.

Section 27a of the NJULPL — modeled after § 303(a) of the Revised Uniform Limited Partnership Act (1976) ("RULPA") — shields a limited partner from liability for the limited partnership’s obligations, except where a limited partner is also a general partner or participates in the control of the business. When the limited partner’s participation in the business does not match power and control exerted by a general partner, a limited partner will only be liable to those persons who transact business with the limited partnership with actual knowledge and reliance upon the limited partner’s participation in control. These sharp limits under which the exercise of control may lead to the imposition of general liability on a limited partner are echoed further in § 27b, NJULPL’s "safe harbor" provision. This safe harbor provision enumerates certain activities in which a limited partner may engage without triggering liability for the obligations of the limited partnership. SHI argued that the aforementioned NJULPL provisions are the only manner in which liability may be imposed upon a limited partner. Accordingly, since SHI did not act in a manner beyond which is proscribed by the "safe harbor" provision, it argued liability did not attach.

The lower court, in focusing on the interrelationship between the various entities and individuals, applied corporate veil piercing to the limited partnership. The court further concluded that a genuine issue of material fact existed as to whether SHI controlled Lakewood sufficiently to hold SHI liable to third parties for Lakewood’s negligence, thereby denying SHI’s motion for partial summary judgment.

The Appellate Court’s Ruling

As a case of first impression in New Jersey, the appellate court sought guidance from other jurisdictions applying corporate veil piercing in the limited partnership context. For example, in applying Delaware law, the U.S. Bankruptcy Court in In re Adelphia Commc’ns Corp., 376 B.R. 87 (S.D.N.Y. 2007) applied the equitable principle of piercing the corporate veil to limited partnerships. In so holding, the Bankruptcy Court recognized finding otherwise would endorse "a wrong without a remedy."

In invoking this equitable principle, the appeals court found veil piercing appropriate under certain circumstances. In order to spur application, one must demonstrate by clear and convincing evidence that the limited partner either participated in the control of the limited partnership’s business by taking or attempting action not within the "safe harbor" provision or by dominating the limited partnership and using it to perpetrate a fraud or injustice, or otherwise circumventing the law.

The test for evaluating "dominance" involves assessment of several factors, including: undercapitalization, day-to-day involvement with the parent’s directors, obliging corporate formalities, payment of dividends, solvency, and existence of corporate records. The inquiry seeks to determine whether the parent and subsidiary are, in essence, one in the same and without separate identity. A similar inquiry is made when applied to the limited partnership context. It is important to note, however, that while a failure to comply with "corporate" formalities may allow corporate veil piercing, those same formalities may not be mandated, or even applicable, under the statutory scheme governing limited partnerships (i.e., NJULPL).

Despite expansion to the limited partnership, limited partners should not fear that this decision will open the floodgates to individual liability. Although the appellate court did extend the concept of piercing the corporate veil to the limited partnership, the criteria as set forth above must be established to invoke liability.

While the appellate court held veil piercing applicable in the limited partnership context, it reversed the lower court’s denial of partial summary judgment, finding no genuine issue of fact as SHI did not "dominate" Lakewood or use it to circumvent the law. SHI’s mere ownership did not demonstrate an involvement in Lakewood’s day-to-day activities, nor did it demonstrate domination. Furthermore, the commonality of ownership — wherein an officer or director of Lakewood’s managing company is also an officer, director or shareholder of SHI — did not impose liability on SHI because "a parent’s domination or control of its subsidiary cannot be established by overlapping boards of directors." And, the structure of the various entities involved does not invoke piercing when the entities are legitimate business structures created to serve personal and business plans provided the partnerships are not used to commit fraud or defeat the ends of justice. Lastly, there was no evidence that plaintiff had any direct dealing with SHI.

While the appellate court has, with this recent case of first impression, expanded upon the doctrine of piercing the corporate veil, undoubtedly case law will continue to define the applicability of the doctrine to limited partnerships.

Lessons Learned

In-house counsel can learn several lessons from the court’s opinion.

Corporate veil piercing may extend to the limited partner when a limited partner takes or attempts action not within the safe harbor of N.J.S.A. 42:2A-27b.

Corporate veil piercing may extend to the limited partner when a limited partner dominates and uses the limited partnership to perpetrate a fraud, injustice or otherwise circumvent the law.

Fernando M. Pinguelo, a trial lawyer and partner of Norris McLaughlin & Marcus, P.A., co-chairs the firm’s Response to Electronic Discovery and Information Group. He founded the ABA Journal award-winning e-Discovery blog, e-Lessons Learned. Pinguelo practices in the areas of complex business and employment litigation. He may be reached at info@NJLocalLaw.com. Kristen M. Welsh is a litigation associate at Schiffman, Abraham, Kaufman & Ritter, P.C., and focuses her practice on business and employment law matters. She may be reached at KWelsh@sakr-law.com.

Disclaimer: This site and information contained herein are included for informational purposes only and should not be construed as legal advice. Seek competent counsel for advice on any legal matter.

© Copyright 2011, Law Journal Newsletters

[1] As appeared in The Corporate Counselor, Volume 26, Number 5, September 2011 http://www.lawjournalnewsletters.com/issues/ljn_corpcounselor/25_9/news/155716-1.html

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