Texas law greatly restricts the use of alter ego or fraud to pierce the corporate veil and hold shareholders liable for a corporation’s contract debts. A shareholder may only be held personally liable
if the obligee demonstrates that the holder, beneficial owner, subscriber, or affiliate caused the corporation to be used for the purpose of perpetrating and did perpetrate an actual fraud on the obligee primarily for the direct personal benefit of the holder, beneficial owner, subscriber, or affiliate.
Tex. Bus. Orgs. Code § 21.223(b).
In the long running saga of Husky Int’l Elecs., Inc. v. Ritz (In re Ritz), No. 14-20526 (5th Cir. Aug. 10, 2016), Chrysalis Manufacturing sold products to Husky International without any misrepresentations. Daniel Ritz, who had financial control of Chrysalis, then drained Chrysalis of assets by transferring Chrysalis funds to other entities Ritz controlled. Husky sued Ritz seeking to hold him personally liable under Section 21.223(b). Ritz then filed for Chapter 7 bankruptcy. Husky objected to the discharge of Ritz’s debt under 11 U.S.C. § 523(a)(2)(A) (excepting from discharge “any debt . . . for money, property, services, or an extension, renewal, or refinancing of credit, to the extent obtained by . . . false pretenses, a false representation, or actual fraud.”).
On appeal the Fifth Circuit faced two issues, first whether fraudulent transfers in violation of the Texas Uniform Fraudulent Transfer Act (TUFTA) would support an alter ego claim for personal liability under Texas Business Organizations Code Section 21.223(b). The second was whether a debt incurred without a misrepresentation would support an objection to discharge of the debt under U.S Code Section 523(a)(2)(A).
In its first opinion the circuit court did not reach the alter ego issue but held that the absence of a misrepresentation precluded an objection to discharge. The U.S. Supreme Court reversed, holding that fraudulent transfers could support an objection to discharge. Husky Int’l Elecs., Inc. v. Ritz, 136 S. Ct. 1581 (2016). On remand, despite the absence of state court holdings on the issue, the Fifth Circuit held that fraudulent transfers committed with actual fraud can support an alter ego claim for personal liability:
We hold today, however, that establishing that a transfer is fraudulent under the actual fraud prong of TUFTA is sufficient to satisfy the actual fraud requirement of veil-piercing because a transfer that is made “with the actual intent to hinder, delay, or defraud any creditor,” Tex. Bus. & Com. Code Ann. § 24.005(a)(1), necessarily “involves ‘dishonesty of purpose or intent to deceive.”
“Although no Texas court has previously reached the same holding, looking to the sources this court considers when making an Erie guess, we are convinced that the Supreme Court of Texas would arrive at the same conclusion as we do here.”