Personal Liability of Officers and Directors
by Eric C. Wood and Richard J. Wallace, III
Section 171.255 of the Texas Tax Code subjects officers and directors to personal liability for corporate debt when the corporation fails to timely pay its franchise taxes. Specifically, when the privileges of a corporation are forfeited for the failure to file a report or pay a tax or penalty, each director or officer is personally liable for debt of the corporation that is created or incurred in Texas after the date on which the report, tax, or penalty is due and before the corporate privileges are revived. If a corporation's charter or certificate of authority and its privileges are forfeited and later revived, the liability of a director or officer of the corporation is not affected by the revival of the charter or certificate and the corporate privileges. The liability is in the same manner and to the same extent as if the director or officer were a partner and the corporation were a partnership.
The statute applies similarly to virtually all types of entities in Texas, such as corporations, limited partnerships, limited liability companies, limited liability partnerships, professional associations, joint ventures, and holding companies. However, banking corporations and savings and loan associations are specifically excluded from the statute, provided they are organized under the laws of the State of Texas or under federal law and have their main office in Texas.
There is a safe harbor in the statute. A director or officer is not liable for a debt of the corporation if the director or officer shows: (1) that the corporation created or incurred the debt over the director's or officer’s objection or without the knowledge of the director or officer; and (2) that the exercise of reasonable diligence to become acquainted with the affairs of the corporation would not have revealed the intention to create the debt.
Since Section 171.255 of the Tax Code is penal in nature, courts strictly construe it and do not extend it beyond the clear meaning of its language. However, officers and directors are not required to have personally participated in the transactions resulting in the corporate debt. Rather, it is the director’s or officer’s consent to and approval of the corporate debts that leads to personal liability. As a result, actual knowledge of a corporate debt is not required. However, the statute does not apply to involuntary debts such as tort judgments.
The date the corporate debt is created or incurred is crucial. Personal liability attaches only to those directors and officers of the entity at the time the debt is created or incurred. This is because these directors and officers have abused the corporate privilege by continuing to create and incur debts after the franchise tax is delinquent. . See PACCAR Fin. Corp. v. Potter, 239 S.W.3d 879 (Tex.App.—Dallas 2007, no writ).
Performance or implementation of the contractual provisions relate back to and are authorized at the time of execution of the contract. Thus, the words “created” and “incurred”, as used in Section 171.255, have a clear and well defined meaning. The word “create” means “to bring into existence something which did not exist.” The word “incur” is defined as “brought on,” “occasioned” or “caused.” Thus, courts have held that the liability imposed under the statute is only for debts contracted after the forfeiture of the right to do business, and has no application to the renewal of obligations arising prior thereto.
Because of Tax Code Section 171.255, a company should be careful to ensure that it remains in good standing with the Texas Secretary of State to prevent its officers or directors from becoming personally liable for debts of the company. If the entity was formed in Texas, a party can obtain a corporate standing history by making an open records request to the Texas Comptroller of Public Accounts at firstname.lastname@example.org. The responsive document can then be used in court as the basis for establishing or refuting officer or director liability.