Personal Liability of Corporate Shareholders

11 Jul

By:  Benish Shah
Sardar Law Firm LLC
New York, New York
Core Practice Areas:  Fashion/Retail, E-commerce, Commercial Litigation, Art Law, Startup Law, Social Media, Mergers & Acquisitions, and Corporate & General Counsel
 
 

It’s a little known fact (especially in the startup world) that New York privately held corporations can hold the top 10 shareholders of such corporations personally liable for any unpaid compensation to the corporation’s employees.

The reason for this is that incorporation does not offer absolute protection to the business owners; otherwise the situation would be one of the wild wild west, and the legal profession does not look too fondly on that.  There are sound exceptions to the protections of incorporations, and one of them is that 10 of the largest shareholders of a privately held corporation may be held personally liable for unpaid compensation.

Main Points

Here are 5 key things to note about this exception (found in Section 630(a) of New York Business Corporation Law):

(1) Corporations only.  The law applies only to privately held corporations; this does not include LLCs or investment companies.

(2) All compensation.  Wages and all other types of monetary compensation are within the purview of this exception, including, but not limited to: severance pay, pension or annuity funds, vacation pay, overtime, and/or contributions to insurance or welfare benefits.

(3) Employees, not contractors.  Only employees are covered, not independent contractors (there is a critical distinction here, see also: Employee Misclassification Can Cost You).

(4) Joint and several liability.  There is joint and several liability amongst the shareholders, allowing the employees to go after only one of the shareholders (likely with the deepest pockets) for the whole amount owed.  The shareholder then can seek pro rata contributions from the other largest shareholders.  

(5) Strict procedure.  Employees need to first attempt to recover unpaid compensation from the corporation; if the judgment remains unsatisfied, then they move towards the shareholders. (There is a procedure that employees must follow, including a written notice under Section 630(a)).

Escape Clause?

This rule applies only to companies that were formed in New York, not to corporations formed in other states that do business in New York.  So for corporations that are concerned about this exception, an escape clause may be to form your corporation in another state (such as Delaware that does not have this exception) and then register in New York State as a foreign corporation.

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