Company is one of the most popular types of business arrangement in India which is widely selected by entrepreneurs and non-individual entities to run business and achieve their objectives. In India, the Companies Act, 2013 is the umbrella act to regulate companies and all types of related compliances. The purpose of the Forming Companies Act is to provide a legal framework for the formation of companies covering the strata of incorporation, compliances, accountability, management, Administration, etc. Section 2(20) of the Companies Act, 2013 defines a company as a “Company incorporated under this act or any previous company law.” A company is an artificial person, which is created by law that has a separate legal entity, perpetual succession, common seal, and limited liability.
Geeky Takeaways:
- As an artificial person, the company itself cannot enter into a contract or make a business deal.
- Several persons on behalf of the company deal with other parties under a veil representing the company.
- However, in some cases, it has been seen that representatives of the company have tried to take unfair advantage of this authority to gain unfair profits.
- It is important to lift the veil and to take legal action against those who are responsible for fraudulent activity.
What is the Corporate Veil Theory?
Corporate Veil is a legal concept whereby the company is recognized as a separate person from the members of the company. The term ‘Corporate Veil’ protects the members of the company from the liability connected to the company’s actions. The Corporate Veil concept implies that if the company incurs any debts or contravenes any laws, the members should not be held liable for those errors as the company’s own identity is different from the members. The Corporate Veil acts as a corporate insulation to the members from the acts of the company.
The landmark case of Salomon Vs. Salomon and Co Ltd. was the first instance when the concept of Corporate Veil was established. This case established that the company has its existence different from members. Due to this, even though the shareholders hold virtually the entire share capital, a shareholder cannot be held liable for the acts of the company.
The whole concept of the Corporate Veil is based on this theory of separate corporate entities. The concept of the corporate veil makes sure that for the acts of the company, the liability is limited only to it, and does not advance to the assets of the shareholders. The shareholders remain hidden under the veil of all the liabilities and they only deal in the name of the company.
Piercing the Corporate Veil
Piercing the Corporate Veil means disregarding the corporate identity and paying regard to humans instead of looking beyond the company as a legal person. In certain cases, it is found that the management has taken ill benefit of the Corporate Veil and has acted wrongfully to obtain unlawful gain. In such cases, the courts ignore the company and concern themselves directly with the members or management of the company. This is called the Piercing of the Corporate Veil. Piercing of the Corporate Veil takes place when the case involves a question of control rather than ownership. Piercing of the Corporate Veil needs a strong basis to believe that the company’s executive has wrongfully committed an act. The court will pierce the corporate veil in a case when the owners, directors, or shareholders have committed fraud, and they have failed to follow the corporate formalities or have acted inappropriately. There can be the following cases when the court may be willing to lift the corporate veil:
1. To Determine the Character of a Company: There are situations where courts need to find out whether the company is a friend or an enemy. Although a company is an artificial person, it cannot possess any emotion or consciousness. However, the court typically employs a control test; i.e., the court is interested to see if the company’s affairs are controlled by individuals from an enemy country, so the court may scrutinize the character of such individuals. The court may be willing to pierce the Corporate Veil unless they find a threat to the public interest. The landmark case in this point was Daimler Co. Ltd. vs. Continental Tyre & Rubber Co.
2. To Protect Revenue or Tax: In certain cases concerning the law of tax default, duties, and stamps, particularly where the question is of control rather than ownership. The veil may be lifted when the corporate entity is used to evade or dodge tax, the court may disregard the corporate entity. And, where the case is of the creation of shell companies to circumvent the proceeds and the assessee is just using the corporate identity to dodge the tax payable on huge income by way of dividends and interest. In this case, the income was transferred back to the assessee by way of a loan. The court decided that the private companies were shell companies and the corporate veil was lifted to decide the real owner of the income in the case of In Re Dinshaw Maneckjee Petit.
3. If trying to avoid a Legal Obligation: Where the Members of a company may establish another subsidiary with the motive to evade certain legal obligations. Piercing the corporate veil allows the court to translate the actual transactions. In the case of The Workmen Employed in Associated Rubber Industries Limited, Bhavnagar vs. The Associated Rubber Industries Ltd., Bhavnagar and another, the company seeks to avoid a legal obligation which was a bonus, by creating a subsidiary with no assets or business income, the court unveiled the true intention and ensure the company should compliance with legal obligations.
4. Forming Subsidiaries to act as Agents: There may be cases where a company is formed to act as an agent or trustee for its members or another company. In such cases, the company; i.e., the principal becomes liable for the company’s actions as the subsidiary shall be deemed to have lost its individuality to its principal. Landmark case law in this point was Merchandise Transport Limited vs. British Transport Commission 1982.
5. A Company formed for Fraud or Improper Conduct to Defeat the Law: Where the motive of incorporation is adopted for some illegal or improper purpose; for example, to defeat or circumvent the law, to defraud creditors, or to avoid legal obligations. In such a case, the court may lift the veil and identify and take action against the actual owner. A landmark case in this regard was Gilford Motor Co. vs. Horne.
Whether Arbitral Tribunals have the Power to Lift the Corporate Veil?
The issue of the arbitrator’s authority to lift the corporate veil has been a topic of contradiction. Where a lot of judgments have been addressed in number by the Hon’ble Supreme Court, and other high courts but in all the judgments there have been contradictions to the issue. Some case laws suggest that arbitral tribunals do not have the right to lift the corporate veil but some suggest otherwise. The arbitral tribunal, being a creature of the arbitration agreement between signatory parties, cannot pass orders against third parties.
In the case of GL Asia Mauritius II Cayman Limited vs. Pinfold Overseas Limited in passing, the court noted that “It is well settled that the arbitral court cannot lift the corporate veil to ascertain a party who is not a party to the agreement.”
The Bombay High Court in Oil and Natural Gas Corporation Ltd. v. Jindal Drilling and Industries Limited observed that an arbitral tribunal has no power to lift the corporate veil. It was also held that only courts had the power to lift the corporate veil, that too only in exceptional cases.
This question was also explored by the High Court of Delhi in Sudhir Gopi v. Indira Gandhi National Open University and others, the court said that the arbitral tribunal would have no jurisdiction over a party in the absence of such party’s consent. It was also observed that an arbitral tribunal is a creature of limited jurisdiction and thus has no power to extend the scope of the arbitral proceedings to include persons who have not consented to arbitrate.
Conclusion
As an artificial person, the company itself cannot enter into a contract or make a business deal. Several persons on behalf of the company deal with other parties under a veil representing the company. However, in some cases, it has been seen that representatives of the company have tried to take unfair advantage of this authority to gain unfair profits. It is important to lift the veil and to take legal action against those who are responsible for fraudulent activity. Piercing the Corporate Veil means disregarding the corporate identity and paying regard to humans instead of looking beyond the company as a legal person. There are instances in which the court may be willing to find out the controller behind the veil, the court may pierce the corporate veil to determine the character of a company, To protect revenue or tax, If trying to avoid a legal obligation, Forming subsidiaries to act as agents, A company formed for fraud or improper conduct to defeat the law.
Frequently Asked Questions (FAQs)
1. What is a Company and what are its features?
Answer:
Section 2(20) of the Companies Act, 2013 defines a company as a “Company incorporated under this act or any previous company law.” A company is an artificial person, which is created by law that has a separate legal entity, perpetual succession, common seal, and limited liability.
2. What is Corporate Veil?
Answer:
Corporate Veil is a legal concept whereby the company is recognized as a separate person from the members of the company. The term Corporate Veil protects the members of the company from the liability connected to the company’s actions.
3. What is the Piercing of Corporate Veil?
Answer:
Piercing the Corporate Veil means disregarding the corporate identity and paying regard to humans instead of looking beyond the company as a legal person. In certain cases it is found that the management has taken ill benefit of the corporate veil and has acted wrongfully to obtain unlawful gain, in such cases the Courts ignore the company and concern themselves directly with the members or management of the company.
4. In which cases the court may lift the Corporate Veil?
Answer:
The court may lift corporate veil in following instances:
- To determine the character of a company
- To protect revenue or tax
- If trying to avoid a legal obligation
- Forming subsidiaries to act as agents
- A company formed for fraud or improper conduct to defeat the law
5. Corporate Veil theory is based on which feature of a company?
Answer:
Corporate Veil theory is based on the theory of separate corporate entities.
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