IPLEADERS

Homepage ► General

Published by Guest Post in General

What Are The Grounds On

Which The Corporate Veil Can
Be Lifted
Subscribe for Updates

In this  blogpost, Harsha Jeswani, Student, National Law Institute University, Bhopal
writes about the grounds on which the courts lifts the corporate veil

Introduction
The landmark judgment of Salomon v. Salomon and Co. Ltd. recognised the principle
of separate legal entity of company which says that a company has a separate existence
from its members. This concept thus protects the shareholders from being personally
liable for the company’s wrongDownload
and itsNow
obligations. In other words, unlike a partnership,
the liability of members of the company is limited to the extent of capital contributed by
them. This means that whenever any wrong is committed by the company, then its
members cannot be held liable for those wrongs. The Supreme Court in the case of Tata
Engineering Locomotive Co. Ltd. v. State of Bihar and others held that the corporation is
a natural person and has its own existence. The entity of member is entirely distinct
from its members; has its own name and seal; It assets are separate from its members,
and similarly the liability of its shareholders is limited to the amount of capital invested
by them. However, the truth is that that being an artificial person, the company is not
capable of doing any act itself. The business is always carried on by individuals. In such
cases, the courts lift this corporate veil of the company to identify the individuals who
are actually guilty. The reason behind it is that no individual can misuse the veil of the
company to hide his own wrongs. This is known as the lifting of the corporate veil or
piercing the corporate veil.

Meaning
Piercing the corporate veil is one of the most widely used concepts to determine when
can the shareholders of the company be liable for the obligations of the corporations.
This concept operates as a check on the principle where shareholders can be held liable
only to the extent of capital contributed by them. Piercing the corporate veil means
disregarding the corporate personality and looking for the real person who is in the
control of the company. In other words, where the shareholders take the corporate
personality of the company as a means to commit fraudulent acts, then the court will
break through the corporate shell and apply the principle of “lifting or piercing through
the corporate veil. In United States V. Milwaukee Refrigerator Co., it was observed that-

“A corporation is considered to have a separate legal entity as a general rule……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.”

In Life Insurance Corporation of India v. Escorts Limited and Others[1], the Supreme
Court laid down two major instances when the corporate veil is lifted. These are –
Download Now

1. Statutory provisions
 2. Judicial grounds

STATUTORY PROVISIONS
Officer in Default (Section 5 of the Act) – This Section talks about the liability of
‘officer in default’ that is those individuals who are involved in wrongful or illegal acts
are liable in respect of the offences committed by them. Thus, this section talks about
the joint and  several liability  of the members. The term ‘officer in default’ includes a
managing director or a whole-time director.

Reduction of Membership (Section 45 of the Act) – A public company requires at

least 7 members for its formation and a private company requires at least two members
(Section 3 of the Act). However when a company has been formed without complying
with this minimum requirement and continues to carry on its business, then each
member who knows such fact is individually liable for any debts contracted by the
company during that time.

Improper use of Name (Section 147 of the Act)– Sub-section 4 of Section 147 of the
Act provides the liability of  the officer who signs Bill of Exchange, Hundi, Promissory
note, cheque under the improper name of the company. Such officer shall be 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 (Section 542 of the Act)–  If at the time of termination of the
corporation, it is found that the activities of the company were carried to deceive the
investors of the company then the individuals who had knowledge of such business
would be personally liable for any loss caused to such investors as the court may direct.

Failure to refund application money (Section 69 of the Act)– If the company fails to
repay the application money to the applicants who were not allotted the shares within
130 days from the date of issue of the prospectus, then the directors of a company are
jointly and severally liable to repay the application money with interest. However, this
won’t in any effect the continuance ofNow
Download the company and its separate existence.
JUDICIAL GROUNDS
Apart from the statutory provisions, the courts in India on its own discretion also lift
the corporate veil on certain grounds. Some of the cases in respect of this are-

FRAUD OR IMPROPER CONDUCT– the most common ground when the courts lift the
corporate veil is when the members of the company are indulged in fraudulent acts. The
intention behind it is to find the real interests of the members. In such cases, the
members cannot use Salomon principle to escape from the liability. In one of the
leading cases of  Shri Ambica Mills Ltd., Re,  [2] the court held that the corporate veil of
the company can be lifted in cases of criminal acts of fraud by officers of a company.
Similarly, the court pierced the corporate veil in the case of  VTB Capital v.
Nutritek[3]and held the directors personally liable for obtaining loan fraudulently.

Tax Evasion– Sometimes, the corporate veil is used for the purpose of tax evasion or in
order to avoid any kind of tax obligation. It is not possible for the legislature to fill all
the gaps in the law and thus it is important for the judiciary to interfere. In such cases,
the courts lift the veil of the company to find out the real state of affairs of the company.
The leading case of  Vodafone[4]  was an example of the corporate structure formed to
evade the taxes. The apex court in this case observed that – “Once the transaction is
shown to be fraudulent, sham, circuitous or a device designed to defeat the interests of
the shareholders, investors, parties to the contract and also for tax evasion, the Court
can always lift the corporate veil and examine the substance of the transaction.” The
Court, in this case, entitled the Income Tax Office to pierce the corporate veil of the
company.

Company as an Agent–  In every case where a company is acting as an agent for its
shareholders, in such cases the principle of vicarious liability is applied, and the
shareholders will be responsible for the acts of the company. The court in such cases
would look at the facts of the cases to determine whether the company is acting an
agent for its members or not. This can be inferred either from the agreement where it
has been expressly mentioned Download
or can beNow
implied from the circumstances of each case.
CONCLUSION
Thus, it is can be said the doctrine of the separate legal entity of company is not
applicable in all case. There are instances where the court moves beyond this principle
and lifts the corporate veil. However, the grounds for piercing the veil are not
exhaustive. It depends on the facts and circumstances of each case. Apart from the
statutory provisions, the Courts in India have time and again lifted this veil in cases of
fraud, sham, tax evasion and other obligations to impute the liability to the
shareholders.

However, the concept of piercing the veil, though used often, is still in its initial stage.
Also the judicial pronouncements with respect to lifting the veil vary with each court’s
views depending on facts of the case. Therefore, it is importance that the courts must
remove this ambiguity by providing a comprehensive framework of instances where the
corporate veil can be lifted.

[1] (1986) 1 SCC 264

[2] 1897 AC 22

[3] [2012] EWCA Civ 808

[4] Vodafone International Holdings B.V. v. Union of India & Anr. [S.L.P. (C) No. 26529 of
2010, dated 20 January 2012]

Subscribe for Updates

Next Read: Laws On Child Marriage In India »

Guest Post :

Like 0 Download Now

 LEAVE A COMMENT

Related Post

What is IP Management and What are the Skills Needed for IP

Management?

  This article is written by Priyadarshini Sinha, pursuing Diploma in Intellectual property, Media
and…

You are Gunpowder

This article is written by Ramanuj Mukherjee, CEO, LawSikho. You are gunpowder. We just need…

Nobody Wakes up in the Morning and says you know What, I Need to
Enroll into a Course Today

This article is written by Ramanuj Mukherjee, CEO, LawSikho. Nobody wakes up in the morning…

   

All Rights Reserved | View Non-AMP Version

Powered by AMPforWP

Download Now