Law200 SHD by Teacher

8/9/2019 Law200 SHD by Teacher

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Answer: The given statement is basically the concise form of the “ Veil of Incorporation”

which in its elaborated form takes the following features within – “ A company once

incorporated becomes a legal personality, a juristic entity, separate and distinct from its

members and shareholders and capable of having its own rights, duties and obligation and

can sue or be sued in its own name. This is commonly referred to as the doctrine or principle

of corporate personality and it carries with it the concept of limited liability which ordinarily

flows from the aforementioned doctrine of corporate personality. No case illustrated the

above principles better than the noted House of ords decision in !alomon v. !alomon.

However, in some circumstances, the courts have intervened to disregard or ignore the

doctrine of corporate personality and limited liability especially in dealing with group

companies and subsidiaries and where the corporate form is being used as a vehicle to

perpetrate fraud or as a "mere fa#ade concealing the true facts." In this article, we will

e$amine the concept of lifting the veil and the circumstances where the court may "pierce" or

"lift" the veil of incorporation.”

Case Analysis: The Salomon principle has stood the test of time because it has meant that

corporations do have practical utility. As a separate legal entity subject to limited liability and

defined by share transferability perpetual e!istence fle!ible financing methods specialised

management majority rule and the other attributes or conse"uences of incorporation the

corporation has many economically and socially beneficial functions.

#rimarily a corporation enables the investing public to share in the profits of an enterprise

without being involved in management. $t also enables a single trader or a small partnership

Question: “The company is at law a different person altogether from its members.

The company is not in law the agency of the subscribers or trustees for them.” –

explain the statement with reference to the leading cases.

aw !""

#aculty: $hd %$haheen Ahmed&

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to carry on a business. Similarly a corporation provides a structure for joint venture% holding

family assets% continuing trusteeship% fund management% corporatised government enterprise%

and the co&enjoyment of property. 'arshalling participants in large commercial enterprises

and acting as a nominee to hold the legal title to assets are two other important functions.

At its most particular level however the decision of the (ouse of )ords in Salomon v

Salomon * +o )td was not a good decision. #rofessor ,ahn&-reund went so far as to

describe it as calamitous. Salomon/s case established the independent corporate e!istence of

a registered company a principle of the greatest importance in company law. 0ut if applied

infle!ibly as was the case in Salomon it can shield parties unreasonably to the detriment of

persons dealing with companies.

+orporate personality is essentially a metaphorical use of language clothing the formal group

with a single legal identity by analogy with a natural person... 10ut2 As +ardo3o 4 said in the

American case of 0erkey v Third Avenue 5ly 16789:; 9 ?< at 8


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private companies to abuse the advantages that the +orporations Act gives them by achieving

a wafer&thin incorporation of an undercapitalised company.

-irst limited liability attracts small traders to the corporate form not because it represents an

effective device with which to raise capital but because it gives them access to an avenue via

which to escape the tyranny of unlimited liability. +riticisms of limited liability are

addressed at its impact on creditors and on society at large.

The principle is that a limited company/s creditors must look at the capital the limited fund

and that only. )imited liability discourages shareholders from monitoring and controlling

their company/s commercial ventures. The company/s creditors bear the burden of the risks

inherent in dealing with limited liability companies. At issue is whether it is right that limited

liability should operate to restrict the si3e of the company/s capital. Different types of

creditors have different capacities to protect themselves against these risks. Ehile banks and

similar financial creditors easily overcome such risks the same cannot be said of trade

creditors employees and tort creditors. 0ecause trade creditors rarely insist on security before

they supply goods on credit they bear a considerable part of the risk of corporate insolvency.

Fmployees are in an even more precarious position. $n stark contrast to finance and trade

creditors employees have no opportunity to obtain security or diversify the risk of their

corporate employer/s insolvency. 'oreover the majority of employees has minimal

information about their employer/s financial standing 6but see the +orporations Act;. Ehile

contract creditors bear a degree of risk when they deal with a limited liability company they

at least enter into the contract by their own will. This is not so for a company/s tort creditors.

Gictims of torts committed by a company bear an uncompensated risk in case of the

company/s insolvency.

-rom a more technical perspective the economic benefits brought about by limited liability

are absent with respect to closely held or private companies. The reduction in monitoring

costs for e!ample is irrelevant because owners and managers are one and the same.

'oreover the benefit of fostering an efficient market for shares through limited liability does

not apply as there is no market for the shares of closely held companies. -urthermore limited

liability encourages such companies to take e!cessive risks because the directors of closely

held companies have more to gain personally by shifting the risk of commercial collapse to

corporate creditors than is the case with public companies/ directors.

Second ever since the (ouse of )ords handed down its decision in Salomon/s case legal

doctrine regards each corporation as a separate legal entity. Ehen coupled with the

conse"uent attribute of limited liability the Salomon principle provides an ideal vehicle for


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fraud. 0ecause of its malleability and facility for protecting directors and members against

the claims of creditors the corporate form has been responsible for the development of many

different forms of fraudulent or anti&social activity. -raud in this conte!t cannot be precisely

defined but two tangible illustrations may elucidate the concept.

Ehat is collo"uially known as the H9 company is one notable e!ample of corporate fraud.

This involves the situation where a small group of persons set up a limited liability company

that is undercapitalised. The owners then cause the corporation to incur large debts in its own

name with little prospect of being able to repay the loans. Ehen the company/s creditors seek

repayment of the debts the owners argue that because the company as a separate legal person

owes the debt then neither the directors nor the members are liable.

Another instance of corporate fraud involves bottom of the harbour schemes. (ere all of

the assets of one corporation that is about to incur a large income ta! liability are transferred

to a new corporation incorporated for this purpose. This transfer is channelled through a

confusing series of transactions involving other corporations and overseas corporate havens

in an attempt to conceal the real design of the scheme. The original corporation might also

change its name and address and create false documentation so as to defeat the efforts of

regulatory investigators. $f investigators trace this shell of a corporation they often find that

straw men have been appointed in place of the original directors. The new corporation now

asset rich is operated merely to fund further schemes for the people who have formed it

including activities as varied as the granting of unsecured interest&free loans by the

corporation to the directors or to companies in which they have an interest% the use of

corporate capital for the personal living e!penses of directors or major shareholders% the

payment of astronomical fees and other payments for management services% and further ta!

minimisation by methods such as unrealistic asset valuations. Iften such schemes involve

undercapitalised corporations carrying on a business as trustee for other persons as

beneficiaries. 0y combining the corporate form with the malleability of the trust structure

creditors might be kept at even greater distance from those who manage the enterprise.

Conclusion: The "uestion of whether the negative aspects of the decision in Salomon/s case

outweigh the good ones is best left unanswered for it is far too broad. Ine is inclined

towards the view that the principle of separate legal entity established in Salomon/s

case has been instrumental in the development of modern capitalism and the immense

social and economic wealth which it has generated. The (ouse of )ords e!tended the

principle so far as to cover small private enterprises. This move has had several

http://www.murdoch.edu.au/elaw/issues/v7n3/puig73a_text.html#Conclusion_Chttp://www.murdoch.edu.au/elaw/issues/v7n3/puig73a_text.html#Conclusion_C


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negative conse"uences over time. (owever it is also true that these have been largely

neutralised by joint legislative and judicial action.

$ndeed the legislature can forge a sledgehammer capable of cracking open the corporate

shell. And even without statutory assistance the courts have often been ready to draw aside

the veil and impose legal liability on members and directors where to apply the Salomon

principle strictly would lead to injustice inconvenience or damage to government finances.

Similarly it should be pointed out that following Salomon/s case all Australian jurisdictions

in a desire to ameliorate legal facilities for small commercial enterprises introduced

provisions for private companies into their corporate law. F!perience since Salomon/s case

demonstrated that there was no reason why the benefit of limited liability should apply only

to groups of business entrepreneurs. The +orporations Act takes this to its logical conclusion

and sanctions the registration of one&person companies. $n 788@ the -irst +orporate )aw

Simplification Act amended the +orporations Act to permit a proprietary company to be set

up with one or more shareholders. Jnder another amendment the minimum number of

directors needed to be designated in a proprietary company was cut from two to one.

'oreover the +orporations Act states that any sort of company not just a proprietary

company may be established with only one member and may continue to e!ist with only one

member 6section 77


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)eb *eferences:

7. K)ifting The Geil If $ncorporationL by +lement +higbo 6The 0ahama 4ournal Eebsite;

9. KA Two&Fdged Sword Salomon and the Separate )egal Fntity Doctrine L by Con3alo

Gillalta #uig 6'urdoch Jniversity Flectronic 4ournal of )aw Eebsite;

M. www.lawtel.co.in

+ibliography:

7. K+ompany )awL by Dr. ' Nahir

9. K+ompany )awL by Sen 'itra * =. Dhar

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Law200 SHD by Teacher