What is the Corporate Veil Theory: Corporate Veil is a legal concept whereby the company is

recognized as a separate person from the members of the company. The term 'Corporate Veil'
protects the members of the company from the liability connected to the company’s actions.
The Corporate Veil concept implies that if the company incurs any debts or contravenes any
laws, the members should not be held liable for those errors as the company's own identity is
different from the members. The Corporate Veil acts as a corporate insulation to the members
from the acts of the company.

The landmark case of Salomon Vs. Salomon and Co Ltd. was the first instance when the concept
of Corporate Veil was established. This case established that the company has its existence
different from members. Due to this, even though the shareholders hold virtually the entire
share capital, a shareholder cannot be held liable for the acts of the company.

The whole concept of the Corporate Veil is based on this theory of separate corporate entities.
The concept of the corporate veil makes sure that for the acts of the company, the liability is
limited only to it, and does not advance to the assets of the shareholders. The shareholders
remain hidden under the veil of all the liabilities and they only deal in the name of the company.

Circumstances when corporate veil may be lifted by the courts.

JUDICIAL INTERPRETATIONS

Protection of Revenue. The Courts may ignore the corporate entity of a company where it is
used for tax evasion [Juggilal v. Commr. of Income-tax, A.I.R. (1969) S.C. 982]. Tax planning may
be legitimate provided it is within the framework of law. Colourable devices cannot be part of
tax planning.
Sir Dinshaw Maneckjee Petit, Re, A.I.R. (1927) Bom. 371. D, An assessee, receiving significant
dividend and interest income, transferred his investments to four private companies to reduce
his tax liability. These companies, essentially the assessee himself, transferred the income to Das
as a pretended loan. The assessee argued that these companies were created solely to avoid tax
obligations, and were created as legal entities to receive dividends and interest.
2. Prevention of Fraud or Improper Conduct . The legal personality of a company may also be
disregarded in the interest of justice where the machinery of incorporation has been used for
some fraudulent purpose like defrauding creditors or defeating or circumventing law.
Jones v. Lipman, (1962) All E.R. 442. L agreed to sell a certain land to J. He subsequently changed
his mind and to avoid the specific performance of the contract, he sold it to a company which
was formed specifically for the purpose. The company had L and a clerk of his solicitors as the
only members. J brought an action for the specific performance against L and the company The
Court looked to the reality of the situation, ignored the transfer, and ordered that the company
should convey the land to J.
3. Determination of Character of a Company whether it is Enemy. A company may assume an
enemy character when persons in de facto control of its affairs are residents in an enemy
country. In such a case, the Court may examine the character of persons in real control of the
company, and declare the company to be an enemy company.
Daimler Co. Ltd. v. Continental Tyre & Rubber Co. Ltd., (1916) 2 A.C. 307. During WWI, a German
company in England incorporated to sell German tires, with most shares held by a German
company. The remaining shareholders were Germans. The company began an action for trade
debt recovery, but was deemed an alien company, and payment was considered trading with
the enemy.
4. Where the Company is a Sham. The Courts also lift the veil where a company is a mere cloak
or sham (hoax). The following case illustrates the point: Gilford Motor Co. Ltd. v. Horne, (1933)
Ch. 935 C.A. Horne, a former employee of a company, was subject to a covenant not to solicit its
customers. He formed a company to carry on a business which, if he had done so personally,
would have been a breach of the covenant. An injunction was granted both against him and the
company to restrain them from carrying on the business. The company was described in this
judgment as 'a device, a stratagem', and as "a mere cloak or sham for the purpose of enabling
the defendant to commit a breach of his covenant against solicitation."
5. Company Avoiding Legal Obligations. Where the use of an incorporated company is being
made to avoid legal obligations, the Court may disregard the legal personality of the company
and proceed on the assumption as if no company existed.
6. Company Acting as Agent or Trustee of the Shareholders. Where a company is acting as
agent for its shareholders, 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 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. Note the following case:
7. Avoidance of Welfare Legislation. Avoidance of welfare legislation is as common as
avoidance of taxation and the approach of the Courts in considering problems arising out of
such avoidance is generally the same as avoidance of taxation. It is the duty of the Courts in
every case where ingenuity is expended to avoid welfare legislation to get behind the smoke
screen and discover the true state of affairs.
8. Protecting Public Policy. The Courts invariably lift the corporate veil to protect the public
policy and prevent transactions contrary to public policy. Thus where there is a conflict with
public policy, the Courts ignore the form and take into account the substance [Connors v.
Connors Ltd., (1940) 4 All E.R. 174].
B. STATUTORY EXCEPTIONS
1. Number of Members below Statutory minimum (Sec. 45). If a company carries on business
for more than 6 months after the number of its members has been reduced below 7 in case of a
public company or 2 in case of a private company, every person who knows this fact and is a
member during the time that the company so carries on business after the six months, is
severally liable for the whole of the debts of the company contracted during that time, ie, after
six months. It may be noted that in such a case the continuing members (ie., those who continue
to be members after six months) -
(a) can be sued and not those who have withdrawn from the membership;
(b) shall be liable only if they are aware of the fact of the number falling below the statutory
minimum.
2. Failure to refund application money [Sec. 69 (5)]. 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 of the
date of issue of the prospectus.
3. Misdescription of Company's Name [Sec. 147 (4)]. Where an officer or agent of a company
does any act or enters into a contract without fully or properly mentioning the company's name
and the address of its registered office, he shall be personally liable. Thus where a bill of
exchange, hundi or promissory note is signed by an officer of a company or any other person on
its behalf, without mentioning this fact that he is signing on behalf of the company, he is
personally liable to the holder of the instrument unless the company has already paid the
amount.
4. Fraudulent Trading (Sec. 542). Sometimes in the course of the winding up of a company it
may appear that some business of the company has been carried on with intent to defraud
creditors of the company, or any other person or for any fraudulent purpose. In such a case, the
Court may declare that any persons who were knowingly parties to the carrying on of the
business in this way are personally liable without any limitation of liability for all or any of the
debts or other liabilities of the company as the Court may direct. The Court may do so on the
application of the Official Liquidator, or the liquidator or any creditor or contributory of the
company.
5. Holding and Subsidiary Companies. In the eyes of the law, the holding company and its
subsidiaries (for definition of holding and subsidiary companies, refer to Chapter 2) are separate
legal entities. But in the following two cases, a subsidiary company may lose its separate identity
to a certain extent:
(1) Where at the end of its financial year, a company has subsidiaries, it must lay before its
members in general meeting not only its own accounts, but also a set of group accounts
showing the profit or loss earned or suffered by the holding company and its subsidiaries
collectively, and their collective state of affairs at the end of the year (Sec. 212
(2) The Court may, on the facts of a case, treat a subsidiary company as merely a branch or
department of one large undertaking owned by the holding company [Free Wheel (India) Ltd. v.
Ved Mitra, supra]