Introduction- Concept of Corporate veil or ‘Veil of incorporation’
A company after its incorporation gets a separate legal personality i.e it gets artificial personhood which is an identity distinct from its members.
As it was established in Salomon v Saloman that because of the distinct legal identity of a company, the shareholders of the company will not be held accountable for the acts of the company, even though a shareholder holds its share capital which means a company has all the rights that a legal person can exercise under its own name and not the shareholders' name. Simply put, the corporate veil, also known as the "veil of incorporation," separates the corporation from its shareholders.
It safeguards corporate directors, officers, and shareholders from legal responsibility arising out of the actions of the corporation. The separation of the company proves to be beneficial in the case if a court decides that the company’s conduct was improper or it has caused harm to another, the protection provided by the corporate veil will safeguard an individual’s personal assets. Personal assets that are protected may include his property, investments, house, bank accounts etc. These assets are shielded from creditors and lawsuits that are filed against one’s company.
Lifting of corporate veil
The concept of a separate legal identity has its own drawbacks and could be misused very easily by persons driving the company for their personal benefits.
That’s why the veil of incorporation is not ironclad, it may be ‘lifted’ to identify real wrongdoers. Lifting or piercing of corporate veil, according to black’s law dictionary, is “the judiciary act of imposing personal liability on otherwise immune corporate officers, directors, or shareholders for the corporation’s wrongful acts' '. When the veil is “lifted” the personal liability protection goes away and the person doing wrongful acts under the cloak of the company’s personality can be held liable as a person. It is a unique feature of some formal business entities, including both LLCs and corporations.
To prevent the misuse of the company’s identity and hold the wrongdoer accountable. The insulation granted by the corporate veil is not ironclad, whenever it appears that the corporate form is being misused or abused, the corporate veil will be lifted and the real nature and character of the entity will be revealed. This way, a court will disregard the principles established under the Saloman case to possibly inhibit misuse of the corporate form.
When can corporate veil be lifted
The Supreme Court, in the case of Life Insurance Corporation v. Escorts Limited and ors, laid down two major cases where the corporate veil may be lifted. These are as follows-
● Fraud or Improper conduct: Even though a company has been granted personhood, it is incapable of acting on its own.
The acts of the company are driven by a human agency and if it appears that a company is indulging in fraudulent or improper conduct then the veil of incorporation will be lifted and the person acting behind the cloak of such company shall be held liable.
● Tax evasion: A legal person has a duty to pay the taxes and avoiding this duty is considered an offense. In the eyes of law, a company is no different than an actual person and therefore it is also duty bound to pay taxes. In Re: Dinshaw Maneckji PetitDinshaw maneckji in order to evade taxes formed 4 sham companies and started crediting parts of his income to these companies and the same amount was later repaid to hom in the form of pretended loans.
This loan entitled him certain tax benefits. After lifting the corporate veil, it was held that it was a means to avoid taxes and was held illegal.
● Enemy character: In Daimler Co. ltd v. Continental tyres & Rubber Co ltd, it was held that a company is not a real person. However, if person(s) who are in de-facto control of the company’s affairs, are residents of enemy territory, then the company may also assume enemy character. It was further held in Sofvracht v. Van Uden's Scheepvaart that monetary funds granted to a company of enemy character would be used as a machinery to destroy the concerned state and it is against the public policy of the concerned state.
● Conduct against public policy or public interest: Where the conduct of a company is against public policies of public interests, then the corporate veil
shall be lifted by the court and the person behind the company will be held personally liable for such actions.
● Company avoiding legal obligations: Whenever the court believes that a company’s actions are such that it deliberately avoids legal obligations, then the court is authorized to disregard the legal personality of the company and liability shall be imposed directly on the individuals(s) concerned.
● Liability for ultra vires acts. Whenever a company does not conform to its MoA, AoA and the Companies Act 2013, it is said to be acting ultra vires or beyond its legitimate
scope and such actions would be subjected to penalty and decisions made by company beyond its legitimate scope shall be deemed null and void.
● Sham companies: Wherever it appears that a company is a mere sham or cloak to carry out businesses related to one’s personal affairs, the court can directly catch hold of the person working behind.
● Companies as agents: Vicarious liability applies where an agent is operating on behalf of the shareholder(s). Based on the fact whether the agent was working as an agent for the shareholders, the courts will decide the culpability of the shareholders. The corporate veil will be lifted whenever the principal and agent are identified in relation to an unlawful conduct committed by the agency.
The corporate veil may be lifted, according to provisions given in the companies act 2013 to
identify officers; either in director on key-managerial positions, in default under section 2(60) of the act, in following cases, the list is not exhaustive
● When the company furnishes false statements in its prospectus.
● When the company fails to pay the sum on application within a period of 30 days from the date of issue of prospectus.
Fraudulent conduct: The courts have the authority to hold any individual personally accountable for such an action in cases where it is discovered that the firm's name was being used for carrying out fraudulent activities.
The veil of incorporation grants a separate legal identity to a company, but a company is still a non-human entity which is incapable to act on its own and, behind it, there are human entities that are controlling the actions of the company.The veil of incorporation in normal cases is a rule that all courts have to acknowledge and abide by. However, the courts can occasionally disregard the veil of incorporation of companies where it needs to be lifted, and the lifting of this very corporate veil is the exception to this rule which is only done to prevent fraud or misuse of the corporate veil.
This article is written by Tanushree Chaturvedi of Institute of Law, Nirma University.