Published 10 September 2018, The Daily Tribune

It is a common estate planning strategy to save taxes by transferring  properties  to a corporation in exchange of stock or unit participation therein. Under the Tax Code, transfer of properties to a corporation which results in control over that corporation by the transferor is not subject to internal revenue taxes.

Considering that after the tax-free exchange, the properties now form  part of the assets of the corporation, can the creditors of the transferor run after the transferred properties to satisfy their unpaid credits?

Before dealing with this issue, it is helpful to discuss first some of the widely accepted doctrines in Corporation Law.

Under the doctrine of separate legal entity, a corporation is considered to have a legal personality distinct and separate from its directors, individual stockholders or members (Bustos v. Millians Shoe, Inc., G.R. No. 185024, April 24, 2017). The assets and liabilities of the corporation are not owned by the stockholders even if they own the capital stock of the corporation and vice-versa. Hence, in cases of satisfaction of debt, a creditor of the corporation cannot claim the assets of its stockholders, and a creditor of a stockholder cannot claim the assets of the corporation. This is just, however, a general rule. As a matter of exception, the doctrine of Piercing the Corporate Veil allows a stockholder or member of a corporation to be held liable for the obligations of the corporation. This doctrine allows the State to disregard for certain justifiable reasons the notion or fiction that the the corporation has a legal personality separate and distinct from the corporators composing it. The said doctrine is applicable when the separate personality of the corporation is used as a means to perpetuate fraud or an illegal act, or as a vehicle for the evasion of an existing obligation, the circumvention of statutes, or to confuse legitimate issues (Lanuza, Jr. v. BF Corp., G.R. No. 174938, October 1, 2014).

Note that the doctrine of Piercing the Corporate Veil has an end objective to hold liable the stockholder or a member of the corporation. Hence, this doctrine can not be applied to resolve the question I earlier posed. Nevertheless, the question may still be answered in the affirmative, which means that the creditor can still seize the assets of a corporation to satisfy the personal obligation of a stockholder applying the doctrine of Reverse Corporate Piercing which was introduced by the Supreme Court in the fairly recent case of International Academy of Management and Economics v. Litton and Co., Inc. promulgated on December 13, 2017. Reverse-piercing flows in the opposite direction of traditional corporate veil-piercing and makes the corporation liable for the debt of the shareholders.

In the above-mentioned case, the lessee owed his lessor rental arrears and share in realty taxes. In an unlawful detainer case filed by the lessor, the court ordered the lessee to pay various sums of money representing unpaid arrears, realty taxes, penalty, and attorney’s fees. During the pendency of the case, the lessee formed a corporation and transferred therein a real property. After the judgement became final and executory, the said real property, now in the name of the corporation, was levied by the sheriff in order to execute the judgement against lessee.

In justifying the application of the Reverse Corporate Piercing to enforce the levy on execution of the real property, the Supreme Court held that the corporation was formed by the lessee to conceal assets which were supposed to pay for the judgement against his favor.

The Supreme Court, however, cautioned that Reverse Corporate Piercing may lead to disastrous consequences for corporations and that ordinary judgement collection procedures or other legal remedies are preferred over that which would risk damage to third parties (for instance, innocent stockholders or voluntary creditors) with unprotected interest in the assets of the corporation.

In conclusion, in satisfaction of a debt, it is advisable for a creditor to claim first for the properties in the name of the debtor. If this is not possible, the doctrine of Reverse Corporate Piercing may be resorted to as long as it can be proven that the debtor deliberately incorporated a separate vehicle to transfer his properties therein with the end goal of evading his obligation to the creditor.

For comments and questions, please send email to cabdo@divinalaw.com