Doctrine of “Piercing the Corporate Veil”

The Companies Act in India and all over the world have statutorily recognised subsidiary company as a separate legal entity. Section 2(47) of the Companies Act, 1956 (for short “the 1956 Act”) defines “subsidiary company” or “subsidiary”, to mean a subsidiary company within the meaning of Section 4 of the 1956 Act. For the purpose of the 1956 Act, a company shall be, subject to the provisions of sub-section (3) of Section 4, of the 1956 Act, deemed to be subsidiary of another. Sub-section (1) of Section 4 of the 1956 Act further imposes certain preconditions for a company to be a subsidiary of another. The other such company must exercise control over the composition of the Board of Directors of the subsidiary company, and have a controlling interest of over 50% of the equity shares and voting rights of the given subsidiary company.
In a concurring judgment by K.S.P. Radhakrishnan, J., in Vodafone International Holdings BV v. Union of India, (2012) 6 SCC 613 the following was observed:
“Holding company and subsidiary company
257. The legal relationship between a holding company and WOS is that they are two distinct legal persons and the holding company does not own the assets of the subsidiary and, in law, the management of the business of the subsidiary also vests in its Board of Directors. …
258. Holding company, of course, if the subsidiary is a WOS, may appoint or remove any Director if it so desires by a resolution in the general body meeting of the subsidiary. Holding companies and subsidiaries can be considered as single economic entity and consolidated balance sheet is the accounting relationship between the holding company and subsidiary company, which shows the status of the entire business enterprises. Shares of stock in the subsidiary company are held as assets on the books of the parent company and can be issued as collateral for additional debt financing. Holding company and subsidiary company are, however, considered as separate legal entities, and subsidiary is allowed decentralised management. Each subsidiary can reform its own management personnel and holding company may also provide expert, efficient and competent services for the benefit of the subsidiaries.”
In Vodafone International Holdings BV v. Union of India, (2012) 6 SCC 613 further made reference to a decision of the US Supreme Court in United States v. Bestfoods ,141 L Ed 2d 43 : 524 US 51 (1998). In that case, the US Supreme Court explained that as a general principle of corporate law a parent corporation is not liable for the acts of its subsidiary. The US Supreme Court went on to explain that corporate veil can be pierced and the parent company can be held liable for the conduct of its subsidiary, only if it is shown that the corporal form is misused to accomplish certain wrongful purposes, and further that the parent company is directly a participant in the wrong complained of. Mere ownership, parental control, management, etc. of a subsidiary was held not to be sufficient to pierce the status of their relationship and, to hold parent company liable.
The doctrine of “piercing the corporate veil” stands as an exception to the principle that a company is a legal entity separate and distinct from its shareholders with its own legal rights and obligations. It seeks to disregard the separate personality of the company and attribute the acts of the company to those who are allegedly in direct control of its operation. The starting point of this doctrine was discussed in the celebrated case of Salomon v. Salomon & Co. Ltd.,1897 AC 22 : (1895-99) All ER Rep 33 (HL). Lord Halsbury LC, negating the applicability of this doctrine to the facts of the case, stated that:
“a company must be treated like any other independent person with its rights and liabilities legally appropriate to itself … whatever may have been the ideas or schemes of those who brought it into existence.”
Most of the cases subsequent to Salomon case,1897 AC 22 : (1895-99) All ER Rep 33 (HL) , attributed the doctrine of piercing the veil to the fact that the company was a “sham” or a “façade”. However, there was yet to be any clarity on applicability of the said doctrine.
In recent times, the law has been crystallised around the six principles formulated by Munby, J. in Ben Hashem v. Ali Shayif, 2008 EWHC 2380 (Fam) . The six principles, are as follows:
(i) Ownership and control of a company were not enough to justify piercing the corporate veil;
(ii) The court cannot pierce the corporate veil, even in the absence of third-party interests in the company, merely because it is thought to be necessary in the interests of justice;
(iii) The corporate veil can be pierced only if there is some impropriety;
(iv) The impropriety in question must be linked to the use of the company structure to avoid or conceal liability;
(v) To justify piercing the corporate veil, there must be both control of the company by the wrongdoer(s) and impropriety, that is use or misuse of the company by them as a device or facade to conceal their wrongdoing; and
(vi) The company may be a “façade” even though it was not originally incorporated with any deceptive intent, provided that it is being used for the purpose of deception at the time of the relevant transactions. The court would, however, pierce the corporate veil only so far as it was necessary in order to provide a remedy for the particular wrong which those controlling the company had done.
The principles laid down by Ben Hashem v. Ali Shayif, 2008 EWHC 2380 (Fam) have been reiterated by the UK Supreme Court by Lord Neuberger in Prest v. Petrodel Resources Ltd. (2013) 2 AC 415 : (2013) 3 WLR 1 : 2013 UKSC 34 , as follows:
“35. I conclude that there is a limited principle of English law which applies when a person is under an existing legal obligation or liability or subject to an existing legal restriction which he deliberately evades or whose enforcement he deliberately frustrates by interposing a company under his control. The court may then pierce the corporate veil for the purpose, and only for the purpose, of depriving the company or its controller of the advantage that they would otherwise have obtained by the company’s separate legal personality. The principle is properly described as a limited one, because in almost every case where the test is satisfied, the facts will in practice disclose a legal relationship between the company and its controller which will make it unnecessary to pierce the corporate veil.”
The position of law regarding this principle in India has been enumerated in various decisions. A Constitution Bench of the Court in LIC v. Escorts Ltd,(1986) 1 SCC 264 , while discussing the doctrine of corporate veil, held that:
“90. … Generally and broadly speaking, we may say that the corporate veil may be lifted where a statute itself contemplates lifting the veil, or fraud or improper conduct is intended to be prevented, or a taxing statute or a beneficent statute is sought to be evaded or where associated companies are inextricably connected as to be, in reality, part of one concern. It is neither necessary nor desirable to enumerate the classes of cases where lifting the veil is permissible, since that must necessarily depend on the relevant statutory or other provisions, the object sought to be achieved, the impugned conduct, the involvement of the element of the public interest, the effect on parties who may be affected, etc.”
Thus, on relying upon the aforesaid decisions, the doctrine of piercing the veil allows the court to disregard the separate legal personality of a company and impose liability upon the persons exercising real control over the said company. However, this principle has been and should be applied in a restrictive manner, that is, only in scenarios wherein it is evident that the company was a mere camouflage or sham deliberately created by the persons exercising control over the said company for the purpose of avoiding liability. The intent of piercing the veil must be such that would seek to remedy a wrong done by the persons controlling the company. The application would thus depend upon the peculiar facts and circumstances of each case. Balwant Rai Saluja v. Air India Ltd., (2014) 9 SCC 407

Advertisements

Leave a comment

Filed under Corporate Law

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s