The law laid down in Soloman v. Soloman and Co. is often considered the source on the basis of which the jurisprudence of corporate personality has been written world over. However, the history of corporate-commercial litigation has witnessed situations where in the Courts have gone beyond the corporate cloak and analyzed the working and the motives of the members or directors of the company: In doing the same, the Courts have evolved the concept of lifting or piercing the corporate veil. Required
Critically discuss this statement citing the relevant case law.
Over the years the courts have used the concept of lifting the veil against the doctrine of cooperate personality which is key in the case Salomon v. Salomon & co. ltd., the concept of corporate personality has led the courts to specify under what circumstances the veil should be lifted.
Corporate (legal) personality arose from the activities of organizations such as religious orders and local authorities who were granted rights by the government to hold property and sue and be sued. Over time the concept began to be applied to commercial ventures with a public interest element such as rail building ventures and colonial trading businesses.
However, modern company law only began in the mid- nineteenth century when a series of Companies Acts were passed which allowed ordinary individuals to form registered companies with limited liability. The case of Salomon v. Salomon & co. ltd., (1897) A.C. 22., is an early example of the doctrine of separate or corporate personality.
This case strengthened the fundamental concept that a company has a legal personality or identity separate from its members. A company is thus a legal ‘person’. It has its own rights, duties and assets which are different and distinct from those of its members. In addition, a company can sue and be sued in its own name, hold its own property and crucially be liable for its own debts. It is this concept that enables limited liability for shareholders to occur as the debts belong to the legal entity of the company and not to the shareholders in that company.
There are many types of businesses such as sole proprietorships and partnerships all of which can be turned into corporations Mr. Salomon was a successful leather merchant who specialized in manufacturing leather boots, he conducted his business as a sole trader and later incorporated. Upon incorporation, a company becomes a separate legal entity, distinct from its members. Many owners incorporate their business because of its advantages such as limited liability. At that time, continuing the case, the legal requirement for incorporation was for at least seven persons subscribe as members (shareholders) of a company.
Therefore, the members of Salomon and Co. Ltd were Mr. Salomon himself, his wife and their five children. He held most of the shares, as the other six members held a share each, and sold his previous business to it. Hence he became the company’s principal shareholder and its principal creditor. When the company went into liquidation, it was argued that Salomon and the company were the same, and that the debentures used by Mr. Salomon as security for the debt were invalid, on the grounds of fraud. Although previous courts had ruled against Solomon, the House of Lords unanimously overturned this decision. The House of Lords found no form of fraud or any deliberate abuse of the corporation.
They also believed that the corporation was properly formed and that it was in law a distant legal person, completely separate from Solomon. Solomon was not held liable for the company’s debt. This next case is another example of corporate personality and how the Courts rule based on this doctrine. In the case Macaura v Northern Assurance Co Ltd (1925) A.C.619, Macaura created a company and sold his land of timber to the corporation. Although Macaura had transferred the land to his company, he failed to transfer the company’s name to the insurance claim.
Therefore when the timber was lost in a fire, Macaura could not claim the insurance because the land of timber belonged to the company. The House of Lords stated that by law a company is a separate legal entity and its’ assets must be insured under the company’s name and not its owner. As it was mentioned, early companies hold its own property and are liable for its own debts. Its’ shareholders have no personal right to the property of the company.
Lifting the VeilFrom the case Salomon v Salomon & co. ltd, the courts realized that corporate fraud could be committed under the doctrine of separate personality. The doctrine of separate personality cast a veil on the members of the company leaving the court to focus solely on the company itself. Corporate members sometimes try to hide behind the doctrine but the courts can and will go beyond the corporate cloak and analyse the workings and motives of the members or directors of the company..
The concept of lifting or piercing the corporate veil arises in situation where the courts will no longer allow the doctrine of separate personality to with stand within a case. In the event that the corporation is believed to be committing unlawful acts, the veil will be lifted in order to uncover the truth and to hold the members liable for the company’s actions. The concept of lifting or piercing the veil has been performed under special circumstances. These circumstances are categorised into statutory exception and judicial exception, some of which will be discussed. Statutory Exception
Less than two members:In the event that the membership of a company falls below two, i.e if only one member remains at any time, that member is given six months in order to find another member. If by the end of the six months and the company is still carrying only one member, that member is personally liable for all of the debts of the company contracted after the six months period. This corporate responsibility falls under section 36 of the Companies Act (1965). Therefore the company and member shall be guilty of any offence, except in the case of a wholly owned company. No company name:
There are circumstances where a person may sign or authorize the signing a document on which the company’s name does not appear properly. It is mandated that the name of the company must appear in letters on all bills of exchange, orders, cheques and promissory notes.
This is because, if the name is not properly mentioned, the person who signed or authorized the signing of the document is liable to the holder for the amount due, under section 121 of Companies Act 1965. Take for example of the case of Hendon v. Adelman (1973) where the directors of L&R Agencies Ltd were alleged to have signed a cheque on behalf of the company by writing ‘ LR Agencies Ltd’.
This was not the correct name of the company, and the court held that they were personally liable, under the equivalent of s.121(2). However in another case, Jenice Ltd v. Dan (1994), the company’s name ‘ Primekeen Limited’ was misspelt ‘ Primkeen Limited’. It was held that the directors of the company were not personally liable when the cheque was dishonoured. This is because the mere omission of a single letter in the middle of the name was not the same as the omission of an entire word.
Fraudulent Trading :The Companies (1948) and Insolvency Act (1986) highlights fraudulent trading as an offence or unlawful act. Section 213, of the Companies law (2006) states that fraudulent trading is “intent to defraud creditors of the company or creditors of any other person, or for any fraudulent purpose”.
Fraudulent trading examines the dishonest intention of the business. In the case of Siow Yoon Keong v H. Rosen Engineering BV the courts held that is was Siow intention to defraud Rosen, the creditor for a fraudulent purpose. Ventura who was the managing director of the Ventura used the funds of the company and bought shares in the stock market under his own name. Upon incurring a loss in his investment, Ventura made the company liable for the losses.
The agreement between Siow and Rosen stated that Rosen would pay 80% of the balance of their contract will retain 20% of the funds. Rosen had paid, Siow some of the trade debt but the losses incurred by the company prohibited the full payment due to Siow. Since Ventura used the company’s funds in the investment before debt owed to Siow was cleared, he was held liable for the debt owed to Rosen. The lifting of the veil in this case exposed Ventura as the culprit behind the company’s fraudulent activities and he was made to pay the balance owed with interest.
Judicial ExceptionFraudulent Conduct:When the company is seen as a “sham”, the veil would be lifted. “Sham” companies are set up to commit a fraud or to avoid a legal obligation. Fraudulent acts are intentional misrepresentations of truth which are punishable by law. This is where the use of an incorporated company is being made to avoid legal obligation. Here the Courts pay no attention to legal personality of the company and proceed on the assumption as if no company existed. In Jones v Lipman (1962), Mr. Lipman promised to sell James his plot of land. Mr. Lipman then changed his mind about the sale of the plotand placed the ownership of the land into a company he created. Therefore the plot of land became the asset of the company and could no longer be sold by Mr. Lipman. The courts ruled for the plot of land to be sold as promised because the corporation was deemed to be fraudulent.
This judicial exception overlooked the separate personality of the corporation, Mr. Lipman and the company and viewed as the same. The principle of Salomon could not be held because Lipman was attempting avoid completing the contract. Protection of revenue (Tax evasion):
Another factor which can persuade the Courts to lift the corporate veil is the protection of revenue. Revenue is the sum of money earned from business activities. Revenue (profit) is affected by taxes, it reduces the total revenue from businesses. According to the Oxford dictionary, taxes are a sum of money paid by people or business firms to a government to be used for public purposes.
Whereas a company’s revenue is from the selling products and services. Corporation members engage in illegal acts to protect the revenue. Tax evasion is the intentional avoidance of paying taxes to government or the manipulation of a company’s accounts in order to pay fewer taxes. Reporting less than what was actually earned or hiding money in an overseas account, are forms of tax evasion.
An owner can hide sums of cash in his or some other corporation; a fraction of what he really has, in order to reduce or remove tax liability. They can also hide all of the profits to totally remove tax liability. In the Walter Anderson (2012) case, Walter Anderson was a former telecommunication executive. He was sentenced to nine years in prison and had to pay a restitution of $200 million for committing tax evasion. Mr. Anderson was accused of hiding his earnings within shell corporations and in off shore bank accounts. He eventually admitted to hiding $365 million worth of income.
A shell corporation does not have any operating activities or assets, it just exists, mainly on paper. Shell corporations are formed to gain financing for the owners’ actually business, it act as a “vessel” for hiding profits. These corporations can definitely aid in tax evasion. The courts will ignore the corporate personality doctrine, once it is evident that the corporation is being used for tax evasion. Enemy Character:
A company may be perceived as having an enemy character when the majority of shareholders are residents of an enemy country. An enemy country, is said not to have a good relationship with the specific country they are trading or operating in. In such cases the court examines the character(s) of the person(s) who are really in control of the company and they then affirm it as an enemy company.
This is shown in the case of Daimler Co. Ltd. Vs Continental Tyre and Rubber Co. Ltd. A company was incorporated in England for the purpose of selling in England, tyres made in Germany by a German company which held the bulk of shares in the English company.
The holders of the remaining shares, except one, and all the directors were Germans, residing in Germany. During the First World War, the English company commenced action for recovery of a trade debt. Held, the company was an alien company and the payment of debt to it would amount to trading with the enemy, and therefore, the company was not allowed to proceed with the action. Conclusion
When business owners incorporated their business they believe that that separation and most of all the liability protection is definite but it isn’t and it is because of the doctrine of lifting the corporate veil. Separate legal personality has been written in stone and is a recognized worldwide and has impacted many Court decisions. It still means that a corporation is separate from its members and every way.
However, they are some circumstances where persons seek to take advantage of the separate legal personality and the courts will hence ignore what principles have came about from the Salomon v Salomon case. Lifting the veil isn’t a frequent occurrence, however it has been used to determine whether directors should become liable for damages incurred. The veil will be lifted for the Courts in order to determine the real person, or characteristics of the company, hence to not allow the abuse of corporate form.
BibliographyCASES:Salomon v. Salomon & co. ltd., (1897)Daimler Co. Ltd. Vs Continental Tyre and Rubber Co. Ltd.Walter Anderson (2012)Jones v Lipman (1962)Gilford Motor Company Ltd v Horne (1933)Siow Yoon Keong v H. Rosen Engineering BVHendon v. Adelman (1973)
ReferencesDavid Kelly et al., Business Law (2011), page 152-153C.F Butler & Associates. 2009. http://www.cfbutlerandassociates.com/liftingtheveilofincorporation2.html
Sadhu, A., (n.d.) Lifting the Corporate Veil. [online] Available at http://www.legalserviceindia.com/articles/corporate.htm Ganguly, A, (n.d) Lifting the Corporate Veil. [online] Available at http://www.lawteacher.net/business-law/essays/article-on-lifting-of-the-law-essays.php