Lifting of the Corporate Veil

One of the important characteristics of the company is that the company is distinct form its members. This principle is known as "the veil of incorporation". The corporate veil protects the members from the liability of the company. It is a statutory privilege and it must be used for legitimate business purposes only. If it is used for any fraudulent or dishonest purpose, the court will breakthrough, this shelter of separate legal personality and and apply the principle/doctrine of what is called as “lifting of or piercing the corporate veil”. In this action, the court will look at the persons behind the company who are the real beneficiaries of corporate fiction.

Cases in which the corporate veil has been lifted:

1. For protection of revenue

The court will allow piercing of corporate veil if it is of the opinion that the company has been formed for evading the tax or to, circumvent tax obligations. If such is the case, the court will disregard the corporate entity and would instead hold individual members liable to fulfil the revenue obligations.

2. For prevention of fraud or improper conduct

The courts will allow lifting of the corporate veil if the purpose of the company is to avoid legal obligations or to defraud the creditors or to defeat or circumvent any law.

3. Determination of character of a company whether it is enemy

Sometimes, particularly during war between countries it becomes necessary to ascertain the character of certain companies. At such times the courts are justified in lifting the corporate veil of a company which is controlled by alien enemy. In this way a company registered in India may be declared alien enemy if it is found that the persons controlling such a company are citizens of an enemy country.
Important case law: Daimler Company Ltd. Vs Continental Tyre and Rubber Company

4. Where the company is a sham

The court also lift the veil where a company is a mere cloak or sham.

5. Company  avoiding legal obligations

where a dummy company was formed to avoid a legal obligation, the court lift the corporate veil.

6. Where company is formed to act as an agent of its members

As a general rule, a company is not an agent of its shareholders or of another company. But, under certain circumstances, a company may be regarded as an agent or trustee of its members or of another company. In such a situation, for the acts done by the company, it will be the members who would be responsible and not the company.

7. Avoidance of Welfare legislations

The courts have disregarded of the separate legal personality of the company when the company's independent status was being used as a device to reduce the amount payable by the company to defeat the provisions of welfare laws, such as payment of bonus to its workmen.

8. Protecting the public policy

Where there is a conflict with public policy, the courts ignore the form and take into account the substance. To protect the public policy and prevent transactions contrary to public policy or public interest, the courts invariably lift the corporate veil.

Statutory Exceptions

1. Misstatement in Prospectus

If there is any misstatement in prospectus, the company and every person who is responsible position like director, promoter etc., shall be liable to compensate for loss or damage to every person who subscribed to shares on believing the untrue statement published in the prospectus.

2. Failure to refund application money

If the amount of minimum subscription is not received within 30 days from the date of issue of prospectus or such other period as may be specified by SEBI, the amount shall be returned within such time as may be prescribed. In case of default, the company and its officer who is in default shall be liable to a penalty.

3. Holding and subsidiary companies

When one company controls the composition of the board of directors of another company or holds majority of its shares, the former is called the holding company and the latter as subsidiary company. In general, a subsidiary company is altogether treated as a separate entity and the holding company is not liable for its acts. But, under Act, every holding company is required to disclose to its shareholders he accounts of its subsidiaries. It requires that the copies of balance sheet, profit and loss account, directors report and auditor's report of each subsidiary company be attached to the balance sheet of the holding company. Thus, companies under the same group are treated as one entity disregarding the rule that each subsidiary company has a separate legal entity.

4. Fraud or Diversion of Funds

If in the course of the winding up of a company, it appears that any business of the company has been carried on with the intention to defraud its creditors or any other persons, in such a case the persons who were knowingly parties to such acts may be held personally liable for any debts and other liabilities of the company. In such a situation, the court may disregard the legal entity of a company and make the fraudulent persons personally liable for the debts of the company.

5. Investigation of ownership of the company

When the Central Government feels it necessary to know about the membership of any company and also some other matters relating to the company with the object of determining true persons who are (or have been) financially interested in the success or failure of the company or who are (or have been) able to control the policy of the company, may appoint one or more inspectors to investigate and report on these matters. This will be done by lifting the corporate veil so as to find out the true persons controlling it.

6. Ultra vires acts

Ultra vires means beyond the powers. It means every company must go within the objects specified in the Memorandum of Association formed during the incorporation. If it crosses its limit, and the acts of the company are beyond powers, every person will be personally liable for the acts done on behalf of the company.

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Redrafted for Educational Purpose.

Deekshith Kumar,
Assistant Professor of Commerce

Book Reference:

1. Elements of Mercantile Law by N. D. Kapoor
2. Principles of Mercantile Law by Avtar Singh
3. A Textbook of Business Law by Dr. Umesh Maiya
4. Business Law by B.S. Raman