Lifting The Corporate Veil
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Lifting The Corporate Veil
1)Independent Corporate Existence: It I s distinct legal personality existing independent to its members. Men who man the company may go and come, but the company remains forever. Section 34 provides that once certificate of incorporation
Is issued its subscribers to the memorandum and other persons who may from time to time be members of the company shall be a body corporate capable forthwith of exercising all the functions o f an incorporated company. Having perpetual succession and common seal. The business belongs to the company now and no one can say that he Is the owner of the company. Corporate personality became an attribute of the normal joint stock company only at a comparatively late stage in its development, and it was not until Solomon v. Solomon & Co.[iv] at the end of the nineteenth century that its implications were fully grasped even by the courts. Solomon had for many years carried on a sole trader a prosperous business as a leather merchant. In 1892, he decided to convert it into a limited company and for this purpose Solomon & Co. Ltd. was formed by Solomon, his wife and five of his children as members and Solomon as managing director. The company purchased the business as a going concern for £39,000 which was a sum which represented the expectations of a fond owner rather than anything that can be called businesslike or a reasonable estimate of value. The price was satisfied by £10,000 in debentures, conferring a charge over all the company’s assets, £20,000 in fully paid £1shares and the balance in cash. The result was that Solomon held 20,001 of the 20,007 shares issued and each of the remaining six shares was held by a member of his family each, apparently as a nominee for him. The company almost immediately ran into difficulties and only a year later the then holder of debentures appointed a receiver and the company went into liquidation. Its assets were sufficient to discharge the debenture but nothing was left for the unsecured creditors. In these circumstances, Vaughan Williams J. and a strong Court of Appeal held that the whole transaction was contrary to the true intent of the Companies Act and that the company was a mere sham, and an alias, trustee or nominee for Solomon who remained the real proprietor of the business. As such, he was liable to indemnify the company against its trading debts. But the House of Lords unanimously reversed this decision. They held that the company has been validly formed since the Act merely required seven members holding at least one share each. It said nothing about their independent, or that they should take a substantial interest in the undertaking, or that they should have a mind and will of their own, or that there should be anything like a a balance of power in the constitution of the company. Hence, the business belonged to the company and not to Solomon and Solomon was its agent. Thus, this case established that provided the formalities of the Act are complied with, a company will be validly incorporated, even if it is a “one person company” and the courts will be reluctant to treat a shareholder as personally liable for the debts of the company by piercing i the corporate veil. Thus, the court held that there was no fraud since the shareholders were fully conversant with what was being done
2)Limited Liability: Then company being separate individual is capable of doing business in its own name and is the owner of its assets and bound by its liabilities..Members of accompany as a whole are neither owners of its assets nor liable for its debts. Limited liability Is one of the privileged forms of doing business under company form of organization. The subscribers to the memorandum decide the liability of members . If its registered as limited liability the members liability is limited. It I registered a limited by shares the members liability is limited to the extent of nominal value o shires held by them. . If the company Is limited by guarantee the members are liable to contribute to only up to the amount guaranteed by them.
3)Perpetual Succession: An incorporated company never doe.. Only its life Is brought to an end by the process of winding up. It is an entity with perpetual succession. Insolvency o r death of a member does not bring an end to the companies existence.
4)Separate Property: A company I s a juristic person separate from its members. It is capable; of owning, enjoying an disposing the property of the company.
5)Transferability of shares: One of the most important advantages’ of doing busin4eess o f organization is its shares are easily transferable .Companies Act declares that shares, debentures or other interest of any member in a company shall be movable property transferable in the manner provided in the articles of association.
6) Capacity to sue and be sued It can sue in its name and can be sued in its name being abody corporate.
7)Finance;: Companies can easily raise finances through public subscription for its shares or debentures an financial Institutions also willingly lend finances to companies because of their faith in this form of business organization.
8)Professional Management: Young management graduates willingly join companies because they were offered work in a professionally managed place. They can hone their skills also.
Lifting the Corporate Veil
Piercing or lifting the veil is corporate law’s most widely used doctrine to decide when a shareholder or shareholders will be held liable for obligations of the corporation. It continues to be one of the most litigated and most discussed doctrines in all of corporate law.[viii]
The term “piercing the corporate veil” has also been described as, “the Court’s unwillingness to permit corporate presence and action to divert judicial course of applying law to ascertain facts”.[ix] When this principle is invoked, it is permissible to show that the individual hiding behind the corporation is liable to discharge the obligations ignoring the concept of corporation as a separate entity. Generally, an incorporated company is liable as a juristic person. It is different from its shareholders and Board of directors of Company. The acts of malfeasance and misfeasance and acts of misdemeanor by the shareholders and directors of a corporation (company), do not always bind the company as such. However so as to apply law to ascertained facts, judicial process can ignore juristic personality of the company and haul-up the directors and in certain cases even shareholders to discharge the legal obligations. When the corporate veil is lifted/pierced, it only means that the Court is assuming that the corporate entity of a concern is a sham to perpetuate the fraud, to avoid liability, to avoid effect of statute and to avoid obligations under a contract.[x]
In Skipper Construction Company (Private) Ltd.[xi], the Supreme Court referred to the principle of lifting corporate veil. After referring Palmer’s Company Law as well as Modern Company Law by Gower, it was observed as under:-
The concept of corporate entity was evolved to encourage and promote trade and commerce but not to commit illegalities or to defraud people. The corporate veil indisputably can be pierced when the corporate personality is found to be opposed to justice, convenience and interest of the revenue or workman or against public interest.
In LIC of India v. Escorts Ltd.[xii], Justice O.Chinnapa Reddy had stressed that the corporate veil should be lifted where the associated companies are inextricably connected as to be in reality, part of one concern. After the Bhopal Gas leak disaster case, the lifting of corporate veil has been escalated. Furthermore in State of UP v. Renusagar Power Company[xiii], the Supreme court lifted the veil and held that Hindalco, the holding company and its subsidiary, Renusagar company should be treated as one concern and that the Power Plant of Renusagar must be treated as the own source of generation of Hindalco and on that basis, Hindalco would be liable to pay the electric duty. After the decision in Renusagar case, the doctrine has been considered in several other cases.
In Trustor AB v. Smallbone (No.2)(2001)[xiv], the Vice-Chancellor concluded; “Companies are often involved in improprieties. Indeed there was some suggestion to that effect in Solomon. But it would make undue roads into the principle of Solomon if an impropriety not linked to the use of the company structure to avoid or conceal the liability of it if the company was used as a device or facade to conceal the true facts thereby avoiding or concealing any liability of those individuals.”
Just as in the case of Jones v. Lipman[xv] the corporation must be the device through which the impropriety is conducted, impropriety alone will not suffice.
The Grounds for Lifting of Corporate Veil
As early as Solomon, judgments have indicated possible exceptions to the separate entity concept. Lord Halsbury recognised the separate entity providing there was “no fraud and no agency and if the company was a real one and not a fiction or myth.” As noted by Lord Denning in Littlewoods Mail Order Stores Ltd. v. IRC,[xvi] “cast a veil over the personality of a limited company through which the courts cannot see. The courts can, and often do, pull off the mask. They look to see what really lies behind.”
The circumstances under which the Courts may lift the corporate veil may broadly be grouped under the following two heads:
(a) Under statutory provisions
- When membership is reduced
Under section 45 of the Companies Act, when the number of members of a company are reduced below 7 in case of a public company and below 2 in case of a private company and the company continues to carry on its business for more than 6 months while the number is so reduced, every person who is a member of such company, knows this fact, is severally liable for the debts of the company contracted during that time.
- Improper use of Name
Section 147(4) provides that an officer of a company who signs any Bill of Exchange, Hundi, Promissory note, cheque, wherein the name of the company is not mentioned in the prescribed manner, such officer shall be held personally liable to the holder of such Bill of exchange, hundi, promissory note or cheque as the case may be; unless it is duly paid by the company.
- Fraudulent conduct
If in the course of winding up of a company, it appears that any business of the company has been carried on with the intent to defraud the creditors of the company or any other person or for any other fraudulent purpose, the persons who were knowingly parties to the carrying on of the business, in the manner aforesaid, shall be personally liable for all or any of the debts or other liabilities of the company, as the court may direct.[xvii]
- Failure to refund application money
The directors of a company are jointly and severally liable to repay the application money with interest, if the company fails to refund the application money of those applicants who have not been allotted shares within 130 days from the date of issue of the prospectus.[xviii] However, this does not in any way affect the very existence of the company or indeed its subsequent independent personality and other features.
- Misrepresentation in prospectus
In case of misrepresentation in a prospectus, every director, promoter and every other person, who authorizes such issue of prospectus incurs liability towards those who subscribed for shares on the faith of untrue statement.[xix] Besides, these persons may be charged criminally and fined upto Rs. 50,000 or imprisoned upto two years or may be fined as well as imprisoned.[xx]
- Holding Subsidiary companies
A holding company is required to disclose to its members the accounts of the subsidiaries. Every holding company is supposed to attach to its balance sheet, copies of the balance sheet, profit and loss account, directors report and auditors’ report etc. in respect of each subsidiary company.[xxi] It amounts to lifting of the corporate veil because in the eyes of law a subsidiary company is a separate legal entity and through this mechanism their identity is known.
- For facilitating the task of an inspector to investigate the affairs of the company
If it is necessary for the satisfactory completion of the task of an inspector appointed to investigate the affairs of a company for alleged mismanagement, or oppressive policy towards its members, he may investigate into the affairs of another related company in the same management or group.[xxii]
- For investigation of ownership
The Central Government may appoint one or more inspectors to investigate and report on the membership of any company for the purpose of determining the true persons who are financially interested in the company and who control its policy or materially influence it.
- Liability for ultra vires acts
Directors and other officers of a company will be personally liable for all those acts which they have done on behalf of a company if the same are ultra vires the company.
- Protection of revenue
In Sir Dinsaw Maneckjee Petit, the assessee was a millionaire earning a huge income by way of dividend and interest. He formed four private companies and transferred his investments to each of these companies in exchange for their shares. The dividends and interest income received by the company was handed back to Sir Dinshaw as a pretend loan. It was held that the company was formed by the assessee purely as a means of avoiding tax and companies thus formed were nothing more than the assesee himself. It did no business and was created as a legal entity simply to extend pretend loans to Sir Dinshaw. In the case of CIT v. Sri Meenakshi Mills Ltd.,[xxiii] where the veil had been used as means of tax evasion, the court upheld the piercing of the veil to look at the real transaction.
- Prevention of fraud or improper conduct
Where the medium of a company has been used for committing fraud or improper conduct, courts have lifted the veil and looked at the reality of the situation. The two classic cases of the fraud exception are Gilford Motor Company Ltd v. Horne[xxiv] and Jones v. Lipman. In the first case, Mr. Horne was an ex-employee of The Gilford motor company and his employment contract provided that he could not solicit the customers of the company. In order to defeat this he incorporated a limited company in his wife’s name and solicited the customers of the company. The company brought an action against him. The Court of appeal was of the view that “the company was formed as a device, a stratagem, in order to mask the effective carrying on of business of Mr. Horne. “In this case it was clear that the main purpose of incorporating the new company was to perpetrate fraud.” Thus the court of appeal regarded it as a mere sham to cloak his wrongdoings. In the second case of Jones v. Lipman a man contracted to sell his land and thereafter changed his mind in order to avoid an order of specific performance he transferred his property to a company. Russel J specifically referred to the judgments in Gilford v. Horne and held that the company here was “a mask which (Mr. Lipman) holds before his face in an attempt to avoid recognition by the eye of equity” he awarded specific performance both against Mr. Lipman and the company.
- Determination of the enemy character of a company
In times of war the court is prepared to lift the corporate veil and determine the nature of shareholding as it did in theDaimler Co. Ltd. v. Continental Tyre and Rubber Co.,[xxv] where a company was incorporated in London for the purpose of selling German tyres manufactured by a German company. Its majority shareholders and all its directors were German. The English Courts held it to be an enemy company on lifting the veil and trading with this company was held to amount to trading with the enemy.
- Group enterprises
Sometimes in the case of group of enterprises the Solomon principal may not be adhered to and the court may lift the veil in order to look at the economic realities of the group itself. In the case of D.H.N. Food products Ltd. v. Tower Hamlets London Borough Council[xxvi] it has been said that the courts may disregard Solomon’s case whenever it is just and equitable to do so. The court of appeal thought that the present case where it was one suitable for lifting the corporate veil. Here the three subsidiary companies were treated as a part of the same economic entity or group and were entitled to compensation. Lord Denning has remarked that we know that in “many respects a group of companies are treated together for the purpose of accounts, balance sheet, and profit and loss accounts”. The nature of shareholding and control would be indicators whether the court would pierce the corporate veil. The House of Lords in the above mentioned case had remarked “properly applied the principle that it is appropriate to pierce the corporate veil only where special circumstances exist indicating that it is a mere facade concealing the true facts” In the figurative sense facade denotes outward appearance especially one that is false or deceptive and imports pretence and concealment. That the corporator has complete control of the company is not enough to constitute the company as a mere facade rather that term suggests in the context the deliberate concealment of the identity and activities of the corporator. The separate legal personality of the company, although a “technical point” is not a matter of form it is a matter of substance and reality and the corporator ought not, on every occasion, to be relieved of the disadvantageous consequences of an arrangement voluntarily entered into by the corporator for reasons considered by the corporator to be of advantage to him. In particular “the group enterprise” concept must obviously be carefully limited so that companies who seek the advantages of separate corporate personality must generally accept the corresponding burdens and limitations.
- Where a company acts as an agent for its shareholders
Where a company is acting as agent for its shareholder, the shareholders will be liable for the acts of the company. It is a question of fact in each case whether the company is acting as an agent for its shareholders. There may be an Express agreement to this effect or an agreement may be implied from the circumstances of each particular case. In the case ofR.G. Films Ltd.[xxvii], an American company financed the production of a film in India in the name of a British company. The president of the American company held 90 per cent of the capital of the British company. The Board of trade of Great Britain refused to register the film as a British film. Held, the decision was valid in view of the fact that British company acted merely as he nominee of the American Company.
- In case of economic offences
In Santanu Ray v. Union of India,[xxviii]it was held that in case of economic offences, a court is entitled to lift the veil and pay regard to the economic realities behind the legal façade.
- Where Company is a sham or cloak
When the court finds that company is a mere cloak or sham and is used for some illegal or improper purpose, it may lift veil. In the leading case of P.N.B. Finance v. Shital Prasad[xxix], where a person borrowed money from a company and invested it into three different companies, the lending company was advised to bring together the assets of all the three companies, as they were created to do fraud with the lending company. The meaning of a “sham‟ was defined by Diplock LJ in Snook v London and West Riding Investments Ltd.[xxx], thus: “it means acts done or documents executed by the parties to the “sham” which are intended by them to give to third parties or to the court the appearance of creating between the parties legal rights and obligations different from the actual legal rights and obligation (if any) which the parties intend to create….but…for acts or documents to be a „sham‟, with whatever legal consequences follow from this, all the parties thereto must have a common intention that the acts or documents are not to create the legal rights and obligations which they give the appearance of creati
Com[any is not a citizen company has nationality, Domicile and residence. Although a company I s a legal person it is not given citizenship neither under the companies Act nor under the citizenship Act..
Conclusion: Thus corporations work towards th e greater benefit and betterment o f society for bringing in better goods and products a d services and wealth not for narrow selfish ends without there being any need for lifting the corporate veil in order to see who is robbing public wealth by indulging I n fraud , cheating including terrorism and other prohibitive acts , polluting the environment etc . If they follow strict guidelines of protecting the environment of courts rulings , not resorting to corruption or financial frauds, chaeating public health due to pollution and wealth by evading taxes etc . They must pay all their bank and other lenders loans promptly without defaults, protect our environment under Corporate Social responsibility provide for education and health care of public by investing in quality health care and education etc creating job opportunities to a numb er o f people, skill training with stipend or on the job training with payment etc.They should substantially cut unemployment as part o f their c corporate Social Responsibility.