Lifting of Corporate Veil
What is the principle of lifting the corporate veil?
Company enjoys a separate position from that of position of it’s owners. It is artificial
but yet a person in eyes of law. Problems arise when this position of the company is
misused. It is not incorrect to say that, though the company is an unreal person, but still
it cannot act on it’s own. There has to be some human agency involved so that
company is able to perform it’s functions. When this human agency is working, in the
name of the company, for achieving goals approved by law, the social order is not
disturbed. But when this medium of operations begins to be tainted, conflicts arise. This
authority rather becomes firing of bullets from someone else’s gun.
When directors, or whosoever be in charge of the company, start committing frauds, or
illegal activities, or even activities outside purview of the objective/articles of the
company, principle of lifting the corporate veil is initiated. It is disregarding the
corporate personality of a company, in order to look behind the scenes, to determine
who the real culprit of the committed offence is. Thus, wherever this personality of the
company is employed for thepurpose of committing illegality or for defrauding others,
Courts have authority to ignore the corporate character and look at the reality behind
the corporate veil in order to ensure justice is served. This approach of judiciary in
cracking open the corporate shell is somewhat cautious and circumspect.
In the case United States v. Milwaukee Refrigerator Transit Company[4], it was
stated “A corporation will be looked upon as a legal entity, as a general rule, and until
sufficient reason to the contrary appears; but, when the notion of legal entity is used to
defeat public convenience, justify wrong, protect fraud, or defend crime, the law will
regard the corporation as an association of persons.” Supreme Court of India had
adopted the similar thinking in the case Tata Engineering And Locomotive Co. Ltd.
vs. State of Bihar & Ors[5] where the corporations petitioning had joined together
and claimed protection under Article 286 of Constitution of India for non-imposition of
taxon the sale or purchase of goods, the Apex Court held that “If their contention is
accepted, it would really mean that what the corporations or companies cannot achieve
directly, they can achieve indirectly by relying upon the doctrine of lifting the veil.”
When can be the veil lifted?
The doctrine, though one of the most used doctrines by Courts, is still, however, not
running upon a hard-and-fast rule. The basis for invoking such operations does not
follow a laid down policy. Howsoever, over the period of time, Courts and Legislatures
throughout the globe have attempted to narrow down scope and applicability of the
doctrine under following two heads:-
1) Statutory Provisions
The Companies Act, 2013 has been integrated with various provisions which tend to
point out the person who’s liable for any such improper/illegal activity. These persons
are more often referred as “officer who is in default” under Section 2(60) of the Act,
which includes people such as directors or key-managerial positions. Fewinstances of
such frameworks are as following:-
A. Misstatement in Prospectus:-
Under Section 26 (9), Section 34 and Section 35 of the Act, it is made punishable to
furnish untrue or false statements in prospectus of the company. Through issuing
prospectus, companies offer securities for sale. Prospectus issued under Section 26
contains key notes of the company such as details of shares and debentures, names of
directors, main objects and present business of the company.If any person attempts to
furnish false or untrue statements in prospectus, he is subject to penalty or
imprisonment or both prescribed under the aforesaid sections, depending upon the
case. Each of these sections create a distinct aspect, that which type of incorrect
information furnishing would make such person liable for what amount or serving term.
B. Failure to return application money:-
Under Section 39 (3) of the Act, against allotment of securities, if the stated minimum
amount has not been subscribed and the sum payable on application is not received
within a period of thirty days from the date of issue of the prospectus, then such officers
in default are to be fined with an amount of one thousand rupees for each day during
which such default continues or one lakh rupees, whichever is less.
C. Mis description of Company’s name:-
The name of the company is most important. Usage of approved name entitles the
company to enter into contracts and make them legally binding. This name should be
prior approved under Section 4 and printed under Section 12 of the Act. Thus, if any
representative of the company collect bills or sign on behalf of the company, and enter
in incorrect particulars of the company, then such persons are to be held personally
liable.
Similar things happened in the case Hendon vs. Adelman[6] where signatory directors
were held personally liable for stating company’s name on a signed cheque as “L R
Agencies Ltd” while the original name was “L & R Agencies Ltd.”
D. For investigation of ownership of company:-
Under Section 216 of the Act, the Central Government is authorized to appoint
inspectors to investigate and report on matters relating to the company, and its
membership for the purpose of determining the true persons who are financially
interested in the success or failure of the company; or who are able to control or to
materially influence the policies of the company.
E. Fraudulent conduct:-
Under Section 339 of the Act, wherever in case of winding up of the company, it is found
that company’s name was being used for carrying out a fraudulent activity, the Court is
empowered to hold any such person be liable for such unlawful activities, be it director,
manager, or any other officer of the company. In the case Delhi Development Authority
vs. Skipper Construction Company (P) [7] it was stated that “where, therefore, the
corporate character is employed for the purpose of committing illegality or for
defrauding others, the court would ignore the corporate character and will look at the
reality behind the corporate veil so as to enable it to pass appropriate orders to do
justice between the parties concerned.
F. Inducing persons to invest money in company:-
Under Section 36 of the Act, any person who makes false, deceptive, misleading or
untrue statements or promises to any other person or conceals relevant data from other
person with a view to induce him to enter into either of following:-
i. An agreement of acquiring, disposing, subscribing or underwriting securities.
ii. An agreement to secure profits to any of the parties from the yield of securities or by
reference to fluctuations in the value of securities.
iii. An agreement to obtain credit facilities from any bank or financial institution.
In such circumstances, the corporate personality can be ignored with a view to identify
the real culprit and make him personally liable under Section 447 of the Act accordingly.
G. Furnishing false statements:-
Under Section 448 of the Act, if in any return, report, certificate, financial statement,
prospectus, statement or other document required, any person makes false or untrue
statements, or conceals any relevant or material fact, then he is liable under Section
447 of the Act.
If any document is sent from company to any place else, content of the documents are
sent on the letter-head of the company, Now when this letter is received by any other
person, he is supposed to be under assumption that he has received the letter from the
company. This “any other person” here is persons appointed under the Act, such as
Registrar of Companies (ROC). If he is furnished any false or untrue statement, that is
also an offence. Thus, in order to determine the real guilty person, who allowed such
documents being released in the name of the company is to be found by way of lifting
the corporate veil.
H. Repeated defaults:-
Under Section 449 of the Act, if a company or an officer of a company commits an
offence punishable either with fine or with imprisonment and this offence is being
committed again within period of 3 years, such company and officer are to pay twice
the penalty of that offence in addition to any imprisonment provided for that offence.
2) Judicial Pronouncements:-
Though the Legislature has attempted to insert numerous provisions in the Act to make
sure guilty person is pointed out as veil is pierced, there are instances where Judiciary
has played it’s part better and kept a check that no guilty person, due to a mere
technicality, walks free. Following are few such scenarios where Court may without any
doubt lift the corporate veil:-
A. Tax Evasion:-
It’s duty of every earning person to pay respective taxes. Company is no different than
a person in eyes of law. If anyone attempts to unlawfully avoid this duty, he is said to be
committing an offence. When strict rules are laid down for human being, why leave
company? One clear illustration was is DinshawManeckjee Petit re[8] where the
founding person of 4 new private companies, Sir Dinshaw, was enjoying huge dividend
and interest income, and in order to evade his tax, he thus found 4 sham companies.
His income was credited in accounts of these companies and these amounts were
repaid to Sir Dinshaw but in form of a pretended loan. These loans entitled him to have
certain tax benefits. It was rather held that purpose of founding these new companies
was simple as means of avoiding super-tax.
B. Prevention of fraud/ improper conduct:-
It is obvious that no company can commit fraud on it’s own. There has to be a human
agency involved to commit such acts. Thus, one may make efforts to prevent upcoming
frauds. Similar thing was observed in the case Gilford Motor Co Ltd vs. Horne[9] where,
Horne was appointed as Managing Director of the company, provided he accepts the
condition that he will not attempt to entice or solicit customers of the company while he
is holding the post or even afterwards. However, shortly thereafter, he opened a
company, in his wife’s name, which carried out a competing business to that of the first
company, with himself being in management. When the matter was brought into the
Court, it was held that the newfound company was mere cloak or sham, for purpose of
enabling Sir Dinshaw to commit breach of his covenant against solicitation.
C. Determination of enemy character:-
The purpose behind formation of company is self-profit. A company will not attempt to
do good towards society consciously. However, it may opt to cause damage instead.
Similar things were observed in the case Dailmer Co Ltd vs. Continental Tyres &
Rubber Co Ltd.[10]The facts were such that a Germany based company was
incorporated in England to sell tyres manufactures in Germany. The German company
had however held the bulk of shares in this English company. As World War I broke out,
the English company commenced an action to recover trade debt. The question was
brought before House of Lords which decided the case against the claimant, stating
that, company is not a real person but a legal entity, it cannot be a friend or an enemy.
However, it may assume an enemy character when persons in de facto control of it’s
affairs are residents of the enemy territory. Thus, the claim was dismissed.
It was rather held in the case Sivfracht vs. Van UdensScheepvart[11] that, if in such
scenarios where a company is suspected to be of enemy character or is proved to be of
enemy character, then such granted monetary funds would be used as machinery to
destroy the concerned State itself. That would be monstrous and against public policy of
that concerned State.
D. Liability for ultra-vires acts:-
Every company is bound to perform in compliance of it’s memorandum of association,
articles of association, and the Companies Act, 2013. Any action done outside purview
of either is said to be “ultra-vires” or improper or beyond the legitimate scope. Such
operations of the company can be subjected to penalty.
The doctrine of ultra-vires acts against companies was evolved in the case Ashbury
Railway Carriage & Iron Company Ltd v. Hector Riche[12] where a company
entered into a contract for financing construction of railway lines, and this operation
was not mentioned in the memorandum. The House of Lords held this action as ultra-
vires and contract, null and void.
E. Public Interest/Public Policy
Where the conduct of the company is in conflict with public interest or public policies,
Courts are empowered to lift the veil and personally hold such persons liable who are
guilty of the act. To protect public policy is a just ground for lifting the corporate
personality.
One such scenario is Jyoti Limited vs. Kanwaljit Kaur Bhasin & Anr.,[13] where it
was held that corporate veil maybe ignored if representatives of the company commit
contempt of the Court so punishment can be inflicted upon.
F. Agency companies:-
Where it is expedient to identify the principal and agent concerning an improper action
performed by the agent, the corporate veil maybe neglected. Such as in the case of
Bharat Steel Tubes Ltd vs IFCI[14] where it was held that it doesn’t matter and it isn’t
necessary that Government should be holding more than 51% of the paid-up capital to
be the principal. In fact, in the case New Tiruper Area Development Corporation Ltd vs.
State of Tamil Nadu[15] where Government was holding mere 17.4% of the investment
funds, it was found that Area Development Corporation was actually a public authority
through the Government. It was created under a public-private participation to build,
operate and transfer water supply and sewage treatment systems.
G. Negligent activities:-
Every company law distinguishes between holding and subsidiary companies. Holding
companies under Indian company law[16]are the companies which have right in
composition of Board of Directors, or which have more than 50% of the total share
capital of the subsidiary company. For example, Tata Sons is the holding company while
Tata Motors, TCS, Tata Steel are it’s subsidiary companies.
In cases where subsidiary companies have been found with tainted operations, Courts
have power to make holding companies liable for actions of their subsidiary companies
as well for breach of duty or negligence on their part. Such as in the case of Chandler vs
Cape Plc[17] where an employee brought an action against holding company ‘Cape Plc’
for not taking proper health and safety measures, even though employee was employed
in it’s subsidiary company.
Employee was appointed in the year 1959 in the subsidiary company while he had
discovered the fact that he is suffering from asbestosis in year 2007. When he was
aware of his condition it was that the subsidiary company was no longer in existence,
thus, he brought action against the holding company, which was still in existence. This
matter was held to be maintainable. Rather, holding company was held guilty and made
liable as it owed duty of care towards employees. It was for the first time where a
holding company, despite the fact that it’s a legal entity separate from that of its
subsidiary, is however liable for actions of it’s subsidiary.
H. Sham Companies:-
The Courts are also empowered to lift the corporate veil if they are of the opinion that
such companies are sham or hoax. Such companies are mere cloaks and their
personalities can be ignored in order to identify the real culprit. This principle can be
seen in the prior discussed case of Gilford Motor Co Ltd vs. Horne[18] where it was held
that the newfound company was mere cloak or sham, for purpose of enabling Sir
Dinshaw to commit breach of his covenant against solicitation.
I. Companies intentionally avoiding legal obligations:-
Wherever it is found that an incorporated company is deliberately trying to avoid legal
obligations, or wherever it is found that this incorporation of a company is being used to
avoid force of law, the Courts have authority to disregard this legal personality of the
company and proceed as if no company existed. The liabilities can be straight away
imposed on persons concerned.
Conclusion
Though there aren’t strict and stern disciplines that whether or not the corporate
personality can be neglected, the doctrine is however, a very powerful weapon in hands
of Judiciary to find the needle in haystack. The company having this corporate
personality acts as haystack where directors, promoters, or other such persons are able
to act in the name of the company and hide themselves in the haystack like a needle.
However, over the period of time, Judiciary around the globe has evolved many
methodologies and approaches to make sure no one takes advantage of this shield for
carrying out their immoral and tainted practices. Respective penalties and punishments
have been prescribed by Legislatures of different countries for committing different
types of illegal acts in the name of the company. Indeed it is correct to say that, though
at an immature stage, the doctrine acts as a watchdog over companies, which barks at
and bites whosoever attempts to illegally trespass the owner’s house
