Veil of Incorporation. Under the Companies Act 2006[1], the effect of registering a company gives it its own legal personality which becomes distinct from its members and creators.

The case of Re Noel Tedman Holdings PTY Ltd helps to demonstrate how the judiciary further respects the veil of incorporation. The case concerns a husband and wife who were recognised as sole shareholders and directors of two companies. They were both killed in an accident, nevertheless the companies carried on in existence as the company and the individuals are considered as separate legal entities. The veil in this instance protects the company as well as the workers within that company.

As discussed, the veil of incorporation serves to protect the physical person, however, in a similar way it may also protect another company.  If one company (being the ‘holding company’) is to set up another company (being the ‘subsidiary company’), the principle of limited liability may act as a safeguard to reduce risks, this can include transference of debts or selling the subsidiary company to pay off debts, leaving the holding company safe. The law recognises subsidiary companies as a separate legal entity to their parent companies though, through research, it seems rare for this to be reflected in UK case law as shown in the case of DHN Food Distributors v Tower Hamlets London Borough Council  where Lord Denning provided that subsidiary companies were ‘bound hand and foot to the parent company.’ However, although Woolfson v Strathclyde Regional Council does not follow the UK law as it is a Scottish case, it demonstrates that a subsidiary company and its parent company are separate legal entities. In this case the House of Lords followed the principle in Salomon, stating that due to the fact that the company which carried on the business did not have any control over the land owners, the holding company and its subsidiary were not a single economic unit.

It seems that the UK courts are quite reluctant to lift the veil, however there are a number of instances where the veil must be ignored and members will be held liable for any wrong which arise.

Under s.213 Insolvency Act 1986 if it appears that any trade of the company has the intent to ‘defraud creditors’ then the courts may state the knowing parties liable to contribute toward the company’s assets. The offence of fraudulent trading is also stated under s.993 of the Companies Act which states that if a person is liable of the offence they will be subject to imprisonment. Improper motive and fraud are demonstrated in the case of Wallersteiner v Moir where the appellant controlled a number of companies. Mr Wallersteiner was moving money between the companies aware of what he was intending to achieve. There was documentary evidence of this act which was unlawful. Mr Wallersteiner attempted to hide behind the veil of incorporation however, Lord Denning provided that the court ‘pull aside’  the veil as the appellant should be held liable for his dishonest actions. Further, s.214 is another key section of the statute which is considered an exception to the Salomon principle.  Section 214 is relevant where a director of the company who, at an time earlier to the commencement of the winding up had knowledge, or could have insight that the company was heading toward liquidation, but continued to trade. If this takes place, the court may instruct that person(s) to make a contribution to the assets of the company as the court seeks appropriate. This is reaffirmed in the case of Winkworth v Edward Baron Development Co Ltd where Lord Templeman provided that when a company is insolvent or at threat of insolvency, a duty exists by the director to the company’s creditors and the company to ensure that the property of the company is not ‘dissipated or exploited for the benefit of the directors to the prejudice of the creditors.’ Continuing to trade with the knowledge of insolvency exposes creditors to a risk of loss and would lead to a breach of the duty of care owed under s212 which provides that compensation can be obtained by liquidators, from directors who breach their fiduciary duties to the company.

Some subsidiary companies may be set up for the purposes of tax evasion as in the case of Littlewoods Mail Order Stores Ltd v Commissioner of Inland Revenue, this case demonstrates the transfer of assets between the holding company and the subsidiary, but as the motive was in order to reduce tax liability for the benefit of the company, the courts treated the two companies as a single unit and the veil of incorporation was ignored. Further, where a company is set up for the purpose of becoming an instrument for the holding company to avoid liabilities, the two companies will be considered as one legal entity as demonstrated in the case of Aluminium Co of Canada Ltd v Toronto where it was held that the subsidiary company was being carried on as a ‘puppet’ for the benefit of the holding company.

Where a group of companies are practically the same as a partnership whereby the companies act as partners  they will be considered as a ‘single economic entity’ as in DHN Ltd v Tower Hamlets London Borough Council, where DHN was a parent company which owned two subsidiaries. One of the companies owned land which the other company used to deliver goods from. Tower Hamlets London Borough Council obtained the premises and argued that they were not liable to the holding company for disrupting their business as the holding company merely worked under a license, not a lease. It was held by Lord Denning that the companies should be treated as one legal entity and so were entitled to compensation. This decision was criticized in the case of Woolfson v Strathclyde where the House of Lords held that the veil of incorporation should only be lifted in circumstances where the company is a ‘façade.’

The courts are prepared to lift the veil where a company is deemed to have been used as a ‘sham’ or ‘façade’ to conceal a dishonest purpose. A clear example of this is in Gilford Motor Co. Ltd v Horne where the defendant had previously been a managing director of the claimant company. His contract had a restraint of trade clause for when his employment ended. In order to avoid a breach of his former contract he tried to form a company so he could compete. It was held that the defendant had set up the company as a ‘sham’ or ‘façade’ in order to conceal his actual intention to break the covenant with his former employers and so the veil was lifted. Similarly in Jones v Lipman Lipman sought to evade specific performance of a contract for the trade of property. He formed a company which he then sold the property to.  This case demonstrates forming a company with an improper motive to prevent having to respect the original agreement to transfer the property and so the company was deemed ‘sham’ or ‘façade,’ as a result of this the courts lifted the veil of incorporation. The companies in the above cases were both formed in order to side step the rules of company law and avoid the liabilities that existed under contracts. Both cases demonstrate that the courts are prepared to lift the veil when the companies are proved to be ‘sham’ or ‘façade’ to hide another, dishonest reason.

It seems that there is some disagreement in the courts when deciding when to lift the veil. The courts held in Creasey v Beachwood Motors Ltd that the veil should be lifted when it is deemed necessary in order to achieve justice. This notion is followed closely in the article ‘Lifting the corporate veil in the pursuit of justice’ whereby Lynn Gallagher and Peter Ziegler observe judgments to find the underlying reasons where the veil is lifted and further research where legislation protects those who have a legitimate interest in the company. The journal examines whether it can be assumed that when the courts chose to ignore the veil, it is for the reason of preventing injustice, which would follow Creasey. In Adams v Cape Industries plc however, it was argued that a stricter approach should be taken where the veil is only lifted when the company is ‘façade’ concealing its true purpose such as in the mentioned cases of Gilford Motor Co. Ltd and Lipman. It appears as though the method in Adams is more commonly followed when looking at lifting the corporate veil, as it is a stricter approach it helps to prevent the persons in the company abusing the veil and benefiting its safeguards when the physical person should be personally liable.

The veil of incorporation may sometimes lead to undesirable results, in general, shareholders could hide behind the veil to obtain funds dishonestly. On the other hand statutory provisions such as the Insolvency Act 1986 and the Companies Act 2006 have been put into place to avoid fraudulent and wrongful trading which may be dishonest. When looking at protecting the abuse of the veil of incorporation we can see through case law how the rules have evolved. In addition to case law, statutes such as the Company Directors Disqualification Act can also be noted in protection of the veil. Under the Company Directors Disqualification Act, if a director is disqualified and acts as director through the period of their disqualification they will be held liable for their actions, rather than the company. Liability can pass to the individual person rather than the company if certain rules are not followed, for example if a public company does not have a s117 certificate from Companies House, a director may become liable for any debts suffered. However, when looking at the veil of incorporation it seems that the courts look to motive as in Salomon. If there is improper motive such as fraud or wrongful trading the court will look to ignoring the veil.

The veil of incorporation both protects the company and the individual however, there are always risks as a person may use it as a shield to safeguard themselves when they should be held liable for their actions. It is a question of opinion whether the statutory provisions and common law have put an end to the potential abuse of the corporate veil in order to avoid the courts being given discretionary powers. We can see that the veil is respected by the courts through cases such as Salomon, Macaura and Lee, nonetheless where the courts are given reason to believe the veil of incorporation is being abused, they will not hesitate to lift the veil between the company and its members.

Word Count: 2,732

Bibliography

Websites:

Westlaw

LexisLibrary

Books:

Alan Dignam & John Lowry, ‘Company Law’ 5th Edition, Oxford University Press 2009

Mayson, French & Ryan, ‘Company Law’ 4th Edition, Oxford University Press 2008

Giles Proctor & Lilian Miles, ‘Corporate Governance’ Cavendish Publishing 2002

Brenda Hannigan, ‘Company Law’ 2nd Edition, Oxford University Press 2009

Journals:

Kahn-Freund, ‘Some Reflections on Company Law Reform’ (1944) 7 MLR 54

Gallagher, L. and P. Zeigler ‘Lifting the corporate veil in the pursuit of justice’, [1990] JBL

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