Corporations that fail to comply with state law can lose the capacity to sue

What is the capacity to sue?

The capacity to sue is the right to come to court to seek relief. A corporation may have a valid claim and may be entitled to relief if the lawsuit proceeds, but if it lacks the capacity to sue it cannot proceed.

A corporation can lose the capacity to sue by failing to comply with certain provisions of the state corporation laws. It is therefore important to be aware of those provisions and be sure to comply with them.

A lack of capacity is a legal disability and not a jurisdictional defect. As such it is a defense that must be raised at the earliest opportunity by the defendant or it is waived. For that reason, it is also important for the party being sued by a corporation to determine if there is a capacity problem and if so, assert it as a defense at the proper time and in the proper manner.

Don’t confuse capacity and standing

It is important not to confuse the capacity to sue with the standing to sue. A lack of standing is a jurisdictional defect. It cannot be waived and the issue of standing can be raised at any point.

To have standing, a plaintiff must have suffered an injury that can be redressed by a favorable decision by the court. Say, for example, Corporation A files a lawsuit claiming the defendant caused harm to the corporation’s subsidiary. The injury, in that case, is to the subsidiary, not Corporation A, and Corporation A would not be entitled to any damages. Therefore, Corporation A does not have a valid cause of action and lacks standing to bring this lawsuit.

Capacity issues for non-qualified foreign corporations and suspended corporations

Capacity issues for corporate plaintiffs can arise in a variety of situations. One example is where a foreign corporation brings a suit in a state in which it is doing business but has not obtained a certificate of authority.

All state corporation statutes require foreign corporations to qualify (or register) to do business in the state. This is generally accomplished by applying for and obtaining a certificate of authority from the state’s business entity filing office. All corporation statutes also provide that a foreign corporation doing business without authority may not maintain a proceeding in the state’s courts until it does qualify.

As an example, say Corporation A sues Corporation B for breach of contract. Corporation B did indeed breach the contract and Corporation A has a valid claim. However, Corporation B’s attorney, noting that Corporation A is a foreign corporation, looks at the forum state’s records and discovers that it is not qualified to do business. Based on Corporation A’s in-state activities, counsel determines that Corporation A was transacting business in the state without authority and asserts Corporation A’s lack of capacity as a defense.

Another situation is where the corporation filing the lawsuit has had its charter suspended for failing to comply with a provision of the corporation statute – most often a failure to file its annual report and/or pay its annual fees. Many corporation statutes provide that a suspended corporation cannot bring a lawsuit in the state’s courts while it is suspended.

So say, for example, Corporation C – a domestic corporation - sues Corporation B for breach of contract. Corporation B’s counsel looks up Corporation C on the state’s records and sees that its status is listed as “suspended”. Corporation B asserts the defense that Corporation C lacks the capacity to sue.

What can a corporation do when the capacity defense is raised?

As noted earlier, a lack of capacity is a legal disability and not a jurisdictional defect. As such, in many cases, the lack of capacity can be cured and the lawsuit can proceed.

In general, courts will not dismiss a lawsuit filed by a foreign corporation doing business without authority. Instead, the foreign corporation will be given the opportunity to obtain a certificate of authority and provide proof that it has done so to the court. Similarly, a suspended corporation may be given the opportunity to restore its status from “suspended” to “good standing” by filing annual reports that are due and paying any taxes or fees it owes. Upon proof of its good standing the lawsuit may proceed.

Conclusion

Corporations, although artificial “persons”, have the right to sue in their own name. This is provided to them by the state corporation laws. However, what the state gives, the state can take away. And the capacity to sue can be lost if the corporation fails to comply with certain provisions of state law.

Although in many cases capacity can be restored, that is not always the case. And even if it can be restored, the corporation will have to pay penalties and interest to cure a disability such as the failure to qualify or file annual reports or pay annual fees. Therefore, the best defense against the lack of capacity defense is to be sure to comply with the provisions of the law that can cost the corporation the right to come to court.