Piercing the Veil When Corporate Subsidiaries Commit Torts

Abstract

Firms that do not have enough assets to cover potential tort liability have a reduced incentive to take safety precautions. Large firms can take advantage of this by compartmentalizing their most dangerous activities into smaller subsidiaries. Under current law it is difficult to reach the assets of a parent corporation when a subsidiary cannot pay its tort debts. Many commentators have suggested that there should be an exception to the rule of limited liability for closely held corporations, tortfeasors, or both. One consequence of doing so would be that some large corporations might forgo dangerous activities and allow smaller firms to dominate the market. Even assuming that small under capitalized firms will take the same level of care as under capitalized subsidiaries, this shift in production can reduce social welfare due to lost economies of scale. Courts could balance these factors by beginning with a presumption of liability for the parents of subsidiaries that cannot pay tort debts, but allowing a defense based on a showing that piercing the veil would result in lost efficiency.

Keywords: piercing, veil, subsidiary, tort

JEL Classification: K13, K22