Personal liability of managers and shareholders for employee wages in a company

Personal liability of managers and shareholders for employee wages in a company

March 23, 2023

Is there a personal liability of managers and shareholders to company debts to its employees? Under certain circumstances, as the Labor Courts determined, both controlling shareholders and managers may be liable for paying wages of employees (including pension contributions and other obligations to the employees).
A well-known corporate rule, which is anchored in the Israeli Companies Law, is that a company has an independent and separate legal existence from its shareholders. At the same time, this separation opens the door to the abuse of the principle of the separate legal entity of the company, in such a manner that various parties may hide behind the corporate veil to evade obligations they took upon themselves, to defraud and to deprive creditors. In light of the above, a doctrine has developed, as an exception to the rule of the separate legal entity of the company, known as "piercing the corporate veil" which allows the Courts to ignore, under certain circumstances, the separation between the shareholders and the company and thus attribute company debts to its shareholders. While ordinarily company managers act on behalf of the company and have no personal liability for their actions, the Courts held that under some circumstances company managers will have a personal liability for the company's obligations.
While originally case law set that the doctrine of piercing the veil should be applied only under exceptional circumstances and for special reasons, over the years the number of grounds has expanded to claim that the barrier between the company and its shareholders can be removed.
The issue of piercing the veil of association in the company also applies in the field of labor law, when a series of judgments of the Labor Courts emphasized the status of the company's employees as special contractors (as opposed to business parties) towards whom the company and the controlling shareholders have an increased responsibility by virtue of the employment agreement and mainly as a derivative of the increased obligation of good faith in work relations. Because of this, Labor Courts use the principle of good faith as a consideration for piercing the veil of incorporation and ignore in many cases (sometimes very easily, and some would say, unbearably easily) the principle of the separate legal personality of the company. The Labor Courts held that according to the duty of good faith, an employer must examine the degree of its ability to pay its obligations towards its employees. Therefore, to the extent that those acting on behalf of the company know that there is a significant apprehension that the company will not be able to fulfill its obligations towards its employees, they must refrain from employing such or at least warn them of defaults.
Noted that in a recent holding the Court discussed a case in which an employer continued to employ its employees, despite knowledge of its managers and controlling shareholders that it could not afford to pay wages. In the same matter it was found that the controlling shareholders, the "living spirit" of the company and the real employer, managed it in an irresponsible manner with indifference to the rights of the employees. Therefore, the Labor Court ordered the piercing of the veil between the employer and the controlling shareholder.
The meaning of this requirement of the Courts may be disastrous - a company that is facing collapse (but may still emerge from this situation) will enter a state of complete collapse as soon as it informs the employees of its situation and they will enter into hysteria and start seeking alternative employment options even though the company might not have collapsed if it were not for an unnecessary announcement. However, an employer who does not give notice to the employees may hold both the managers and the controlling shareholders personally liable for the wages and conditions of the employees. Thus, it is extremely important that an employer, managers and shareholders, be accompanied by close legal advice, especially in situations where the company is in a difficult financial situation.