Lifting the corporate veil under judicial interpretation

Lifting the corporate veil under judicial interpretation

If there is no danger to the public interest the courts may refuse to break open the corporate insulation.  In the American case of People’s Pleasure Park Co.[1] certain lands were transferred by one person to another perpetually enjoying the transferee from selling the said property to coloured persons.  He transferred the property to a company composed exclusively of Negroes.  An action was commenced for annulment of this conveyance on the ground that all the members of the company being Negroes, the property had, in breach of the restriction, passed to the hands of coloured persons.

The court, however, rejected this argument and held that members individually or collectively are not the corporation, which “has a distinct existence – an existence separate from that of its shareholders.  It leads its own life… it stands apart as a separate subject and, in contemplation of law, as a stranger to its own members”.

Determination of character

The corporate veil has been lifted by the courts to determine the enemy character of a company.  A company acquires enemy character if it is controlled by alien enemies.  Thus the court will lift the veil for the purpose of finding out the persons who in reality control the company’s affairs.

Determination of Residence for tax purpose

The court has the power top disregard corporate entity if it is used for tax evasion or to circumvent tax obligation.  A clear illustration is the case of Dinshaw Maneckjee Petit  where the assessee was a wealthy man enjoying huge dividend and interest income.  He formed four private companies and agreed with each to hold a block of investment as an agent for it.  Income received was credited in the accounts of the company but the company handed bank the amount to him as a pretended loan.  This way be divided his income into four parts in a bid to reduce his tax liability.

Fraud

The corporate existence cannot be allowed to be used as vehicles of fraud.  Wherever the corporate existence is used for fraudulent purposes as to defraud creditors or to avoid legal obligations, the courts will lift the corporate veil to see the realities behind it and strike down the transaction.  Gilford Motor Co. v. Horne is a leading case on this issue.  In this case Horne was appointed as a managing director of the plaintiff company.  He covenanted with the plaintiff company that “he shall not at any time while he shall hold the office of a managing director or afterwards, solicit or entice away the customers of the company.”  After sometime his employment was determined by agreement.  Thereafter he formed a company to carry on his business.  The new company formed by Horne began to solicit the customers of the plaintiff company.  The plaintiff company an action in the court for injunction and the Court granted it against Horne and his company both to restrain them from soliciting the customers of the plaintiff company.  The Court held that “the company was a mere clock or sham for the purpose of enabling the defendant (Horne) to commit a breach of his covenant against solicitation.”  Thus to prevent fraud the corporate veil was lifted and the injunction was granted against the company formed by Horne notwithstanding that it was not a party to the covenant.

Agency

A company may sometimes be regarded as an agent or trustee of its members or of another company and may, therefore, be deemed to have lost its individuality in favour of its principal.  In India this question was frequently arisen in connection with Government companies.  A large number or of private companies for commercial purposes have been registered under the Companies Act with the President and a few other offices as the shareholders.  The obvious advantage of forming a Government company is that it gives the activities of the State “a little of the freedom which was enjoyed by private corporations and (the Government) escaped the rules and principles which hampered action when it was done by a Government department instead of a Government corporation.  In other words, it gave the Government some of the robes of the individual” And in order to assure this freedom the Supreme Court has reiterated in a number of cases that a Government company is not a department or an extension of the State.  It is not an agent of the State.  Accordingly its employees are not civil servants and prerogative writs cannot be issued against it.  In one of these cases, the court remarked

The Company being a non-statutory body and one incorporated under the Companies Act there was neither a statutory nor a public duty imposed on it by a statute in respect of which enforcement could be sought by means of a mandamus.

 

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