This article on ‘Lifting of Corporate Veil: All you need to Know’ was written by Harshit Yadav, an intern at Legal Upanishad.
The legal notion of corporate veil refers to the legal idea that separates a corporation’s legal personality from that of its owners or shareholders. It is a legal shield that shields the corporation’s owners or shareholders from personal culpability for its conduct, including its debts and legal responsibilities. The corporate veil is a fundamental element of corporation law that plays an important role in defining the legal environment for organisations.
Its objective is to enable entrepreneurs to form and run enterprises without fear of personal culpability for the corporation’s activities. The principle of limited liability is important to the corporate veil, allowing shareholders to restrict their exposure to company risks. The corporate veil, in effect, creates a separate legal entity distinct from its owners or shareholders, allowing the corporation to conduct business, engage in contracts, sue and be sued, and own property in its own name.
It also protects the rights of creditors and other third parties with whom the corporation may have contact. The corporate veil ensures that third parties can trade with the company with confidence that they will not be held personally accountable for any debts or obligations incurred by the business by restricting the liability of shareholders. Third-party interest protection is critical for supporting economic activity and growth because it encourages firms to engage in commerce and allows creditors to issue credit and invest in companies without taking on undue risk.
Definition and Explanation of Lifting of Corporate Veil
The Lifting of Corporate Veil is a legal notion in which a court disregards a corporation’s independent legal identity and holds the owners or directors personally accountable for the corporation’s activities. Lifting the corporate veil, in other words, is the process of piercing the legal protection of the corporate structure in order to hold the individuals behind the organisation accountable for their acts.
The corporate veil is a key tenet of corporate law that shields shareholders from personal liability for the corporation’s debts and obligations. However, under specific conditions, the corporate veil may be pierced and the owners or directors held personally accountable. Among these circumstances are:
A court may pierce the corporate veil and hold the corporation’s shareholders and directors personally liable if they use the corporate framework to conduct fraud or engage in unethical behaviour.
If the corporation is undercapitalized and unable to satisfy its financial obligations, a court may pierce the corporate veil and hold the corporation’s owners or directors personally accountable for its debts.
A court may reject the corporate structure and find the individuals personally accountable if the corporation is only an alter ego or extension of its shareholders or directors and does not have a separate existence.
If the corporation fails to follow legal requirements, such as keeping adequate documents or conducting regular meetings, a court may lift the corporate veil and hold the individuals behind the corporation personally accountable.
It is vital to understand that the decision to lift the corporate veil is not taken lightly by the courts. The courts are hesitant to interfere with the corporation’s independent legal identity, and they will only do so in extraordinary cases when the shareholders or directors have acted unlawfully or in bad faith.
- Section 339 of the Indian Companies Act, 1956: This clause permits the court to lift the corporate veil in circumstances where the business was founded for fraudulent or unlawful purposes or is merely a sham or facade.
- Section 53 of the Indian Insolvency and Bankruptcy Code, 2016 allows for the piercing of the corporate veil in circumstances where a person has exploited a business structure to deceive creditors.
- Section 20 of the Indian Companies Act, 2013: In circumstances of fraud or inappropriate behaviour, the court may disregard the corporate structure and lift the corporate veil.
- Life Insurance Corporation of India v Escorts Ltd (1986): In this case, the Supreme Court of India held that the corporate veil could be lifted in cases where the company was formed with the sole intention of evading taxes or where the company was being used as a mere facade.
- Tata Engineering and Locomotive Co. Ltd v State of Bihar (2005): In this case, the Supreme Court of India held that the corporate veil could be lifted in cases where a company was acting as the alter ego of its shareholders or directors and was being used to evade tax obligations.
- Salomon v Salomon and Co. (1897): Although this case was resolved in the United Kingdom, it is regarded as a landmark case in India as well. The House of Lords ruled in this judgement that a corporation is a separate legal entity from its stockholders and that the corporate veil should not be lifted except in exceptional circumstances. This decision established the notion of a corporation’s separate legal identity, and it is widely cited in Indian case law.
The role of the judiciary in Lifting of Corporate Veil
It is crucial because it is the judiciary that has the authority to determine when and under what circumstances the corporate veil should be lifted. The judiciary has developed various legal tests and principles to determine when it is appropriate to lift the corporate veil, and it is responsible for applying these tests to the facts of each case to make a decision.
The judiciary is responsible for applying the legal tests and principles developed over time to determine whether the corporate veil should be lifted. These tests include the alter ego test, the single economic entity test, and the agency test, among others. The judiciary considers various factors such as the degree of control exercised by the shareholders or directors over the corporation, the degree of separation between the corporation and its shareholders, and the degree of misuse of the corporate form.
The judiciary evaluates the evidence presented by the parties to determine whether the legal tests have been satisfied. The judiciary will consider the factual circumstances of each case and evaluate the evidence presented by the parties to determine whether the corporate veil should be lifted. The judiciary may consider factors such as the degree of control exercised by the shareholders or directors over the corporation, the extent to which the corporation has been used for improper purposes, and the degree of separation between the corporation and its shareholders.
The judiciary also has a responsibility to protect the interests of third parties who may be affected by the Lifting of Corporate Veil. This includes creditors, employees, and other stakeholders who may be adversely affected if the corporate veil is lifted. The judiciary will balance the interests of the shareholders and directors against the interests of third parties and make a decision that is fair and equitable
The impact of globalization on the concept of the corporate veil
Globalization has had a significant impact on the concept of the corporate veil, as it has led to increased cross-border trade and investment, resulting in a greater need for transparency and accountability in the corporate sector. As a result, there has been a growing trend towards the lifting of Corporate Veil in cases involving transnational corporations.
The rising complexity of corporate structures is one of the most significant effects of globalisation on the concept of the corporate veil. As businesses develop globally, they frequently establish complicated structures including several subsidiaries and affiliates, making it more difficult to discern who is ultimately liable for the corporation’s conduct. As a result, corporate structures are being scrutinised more closely, and courts are more willing to uncover the corporate veil in cases involving fraud, money laundering, and other unlawful acts.
Another effect of globalisation on the concept of the corporate veil is the rising importance of international law and government collaboration in regulating transnational firms. As a result, there has been an increase in the harmonisation of laws and regulations across jurisdictions, making it simpler to hold individuals accountable for corporate fraud.
Suggestions and Conclusion
In conclusion, the concept of the corporate veil is a fundamental principle of corporate law that provides limited liability protection for shareholders and directors. However, there are situations where the corporate veil may be lifted, such as in cases of fraud, illegal activities, or where the corporate entity is being used to evade legal obligations.
- Lifting of corporate veil can have serious consequences for shareholder and director liability, as well as corporate transparency and accountability. It is an effective tool for holding people accountable for their actions and encouraging better corporate responsibility.
- As globalisation continues to influence the corporate environment, future studies should investigate the impact of this trend on the concept of the corporate veil. Research should concentrate on the following areas in particular:
- The impact of globalisation on the complexity of corporate structures and the implications for corporate transparency.
- The role of international law and cooperation among governments in regulating transnational corporations and the impact on the concept of the corporate veil.
- The evolving concept of corporate social responsibility and its implications for lifting of corporate veil in cases involving social and environmental harm.
- The role of the judiciary in balancing the interests of limited liability protection and corporate responsibility in the context of lifting of corporate veil.
- The impact of emerging technologies, such as blockchain and smart contracts, on the concept of the corporate veil and the potential for increased transparency and accountability in the corporate sector.
List of References:
- Umang Sharma and Anugya Shukla, Lifting of Corporate Veil: Recent Developments and Ways for Protection, 6(2) IJLMH (2021)
- Harshit Saxena, Lifting of Corporate Veil, SSRN, 14 December 2010, available at: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1725433
- Rishi Pandey, Lifting Or Piercing Of Corporate Veil, LiveLaw, 15 December 2022, available at: https://www.livelaw.in/know-the-law/lifting-or-piercing-of-corporate-veil-216786#:~:text=Grounds%20For%20Lifting%20Or%20Piercing%20Of%20Corporate%20Veil%3A&text=The%20necessary%20authority%20will%20do,the%20Companies%20Act%20of%202013.