WS2 Corporate Personality; Limited Liability; Corporate Veil PDF

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SEPARATE LEGAL PERSONALITY; LIMITED LIABILITY1 Abstract company → Actions taken by natural persons: (a) This will happen either through (i) Primary decision-making bodies: the board of directors or the members collectively (ii) By officers: Including individual directors, agents or employees of the ...

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SEPARATE LEGAL PERSONALITY; LIMITED LIABILITY 1 Abstract company → Actions taken by natural persons: (a) This will happen either through (i) Primary decision-making bodies: the board of directors or the members collectively (ii) By officers: Including individual directors, agents or employees of the company (b) Problems of attribution: The question is whether the decision taken, act done or knowledge held by the natural persons can properly be attributed to the company. There clearly needs to be some linkage between the natural persons in question and the company for the company’s legal position to be regarded as having been altered. (c) Much of the separate legal personality question is about identifying the linkages that the law has accepted and those it has rejected. 2 Two important context (a) Where the company purports to enter into a contract with an outside third party: (i) Where the company contracts though decision-making bodies: The company is bound because its constitutionally established decision-making bodies have committed it to the contract. (ii) Otherwise: Agency law and tweaks. (b) Where the individual / decision-making party acting on behalf of the company commits a wrongful act (i) Tort (ii) Criminal (iii) Wrongdoing in equity 3 Tripartite hierarchy of rules about how a company decide, act or know?: Terminology developed by Lord Hoffmann in Meridian Global Funds Management Asia v Securities Commission (a) Rules setting up the constitutional structure of the company and its decisionmaking bodies: “Company law’s primary rules of attribution” because of their location in the constitution of the company. (i) Articles of association (b) General doctrines of the common law such as agency and vicarious liability: “General rules of attribution” because they apply also to principals who are not companies but natural persons (c) Statutory or common law rules attributing liability specifically to companies: “Special rules of attribution” because their function is to provide for corporate liability in situations where such liability is thought to be appropriate but neither of the first two approaches to attribution is capable of achieving that result. Residual and ill-defined. SEPARATE LEGAL PERSONALITY

1 Separate legal personality (a) What does it mean: The corporation is a legal entity distinct from its members. With that comes rights and duties of an artificial person. (i) The right to own property separately; (ii) The right to sue and be sued in its own name; (iii) Holding it own profits; Liability for its own debts → Limited liability. (b) “The Corporate Veil”: Exists to separate the actions of the company from the actions of the shareholders of the company. (c) Sets in at incorporation: Section 16 CA (d) How it is different from human legal personality: Humanity is a state of nature and legal personality is an artificial construct which may or may not be conferred. A company is a group of people engaged in a common activity - the personality is a a way of simplifying their joint activity by gaining legal personality for the venture. 2 Origin (a) Salomon v Salomon; Macaura; Lee v Lee Air Farming; Re Southard; Prest

Salomon v Salomon (1897) HoL ● Principle ○ → Established the principle of separate legal personality: The company is not an agent or trustee for the directors / members of the company. The fact that a person holds shares is not enough to create a relationship of agency or trusteeship. Thus the company is a separate entity with which creditors contract. It follows that a company has limited liability - a company’s debts cannot be the members debts. ○

→ As long as formalities of the Act are complied with, a company will be validly incorporated: the fact that some of the shareholders are only holding shares as a technicality is irrelevant, the machinery of the Companies Acts may be used by an individual to carry on what is in economic reality his business.

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→ The courts will be reluctant to treat a shareholder as personally liable for the debts of the company by piercing the corporate veil

Macaura v Northern Assurance (1925) HoL

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Principle: ○ → The Salomon rule is held strictly. Assets of the company belongs to the company. They are separate from the assets of the company’s members and the members have no proprietary interest in the company’s assets.

Lee v Lee’s Air Farming (1961); ● Principle: ○ → The company has a separate legal personality and enters into contracts with third parties on behalf of itself. This rule is held strictly, even when the third party is technically the same individual. Re Southard & Co (1979) ● Principle: The principle of separate legal personality has been applied specifically to the situation of groups of companies. Templeman L.J. noted in the case of In Re Southard & Co Ltd.[8] that, as concerns groups of companies, parent companies, other subsidiaries and shareholders of an indebted company, these persons are not to be held responsible for the liabilities of an indebted company within a group. ○ Thus concealement principle only applies to lift corporate veil when there is a reasonable belief that the separate legal pesonality is being used as a means of continuing fraud or the subsidiary is realy an extension of the owner / creator / promoters

Prest v Petrodel (2013) SC ● Principle: separation of legal personalities; Affirmed the importance of the doctrine: and indicated that the courts may only pierce the corporate veil in exceptionally limited circumstances. Referred to the separate legal personality of a company being “a fiction” which underlies “company law” as well as “insolvency law” ●

Facts: Husband transfers all assets into a newly set up company. The husband and wife got divorced. The court held that the veil could be pierced in order to give the wife her matrimonial rights to the property.

LIMITED LIABILITY 1 Limited liability: (a) A consequence of separate legal personality: Follows from separate legal personality. Limited liability is the logical consequence of the existence of a separate personality - members are not liable for a company’s debts.

(b) Definition: The liability of members of a company can be limited. (i) Limited by shares: Shareholders are liable to pay for their shares, but they are not liable for the company’s debts. In a liquidation the liquidator can seek contributions from its members and each member is liable to contribute the full nominal value of the shares held insofar as this has not already been paid by the shareholder or any prior holder of those shares (which it normally will have been). Thus only partly paid shares would require contribution. If fully paid shares, no further liability will arise for the member. Salomon Case; Section 74(2(d) Insolvency Act 1986; Section 3(3) CA (ii)

Limited by guarantee: Each member is liable to contribute a specified amount.

PIERCING THE CORPORATE VEIL 1 Definition (a) “Piercing the veil”: refers to the situations where the judiciary or the legislature have decided that the separate personality of the company is not to be maintained and will be wholly or partly disregarded. The veil of incorporation is thus said to be lifted. (i) For the purpose of holding shareholders liable (1) Shareholders as straightforward members (2) Shareholders in corporate group structures 2 Two ways (a) Statute (b) Common law STATUTORY WAYS OF PIERCING THE VEIL 1 Insolvency (a) Fraudulent Trading (i) (civil liability): Section 213 IA 86 (1) Lift the corporate veil if: in the course of winding up a company, it appears that the company has been run with a) an intent to defraud creditors OR b) for any fraudulent purpose (2) With the consequence: that any persons who were knowingly parties to the carrying on of the business in the manner above mentioned are to be liable to make such contributions (if any) to the company’s assets as the court thinks proper. (ii)

(criminal liability): Section 246ZA IA 86; Section 993 CA (Criminal liability). Intent hard to prove, hence, look to the easier Wrongful Trading provisions.

(iii)

Intent hard to prove: Re Patrick and Lyon (1933). Involved proving “actual dishonesty, involving, according to current notions of fair trading among commercial men, real moral blame”. Reaching this standard proved difficult.

(b) Wrongful Trading (civil liability): Section 214 IA 86. Negligence rather than fraud, combined with a misuse of corporate personality and limited liability. In other words no need to prove dishonesty. (i) Lift corporate veil if: (1) A company has gone into insolvency (2) Director of the company knew or ought to have known that there was no reasonable prospect that the company would avoid going into insolvent liquidation a) “Director’s knowledge”: Re Continental Assurance Co of London Plc (in liq) [2001]; D’Jan of London (1993) b) Date of knowledge: The courts have required that there be quite a degree of precision about the time / period the liquidator is claiming te director(s) “knew” or should have known, the company could not reasonably avoid insolvent liquidation. Re Sherborne Associates (1995); Re Continental Assurance Co of London (2001); Ward v Perks (2007) c) Increasing losses: Generally, need to show link between wrongful trading and continued losses. Re Continental Assurance Co of London Plc (in liq) [2001]; Re Produce Marketing Consortium Ltd (No 2) [1989] d) Individual liability not joint: Re Continental Assurance Co of London Plc (in liq) [2001] (ii)

With the consequence: Court can lift veil and hold such directors liable to make such contribution to the company’s assets as the court thinks proper. (1) Purpose is to compensate not penalise: you want them to compensate for the losses that the company has incurred. So that is why you would only refer to civil proceedings. Re Purpoint Ltd (1991); Re Produce Marketing Consortium (No 2) (1989)

(iii)

Defences: Section 214(3); Section 246ZB(3) IA 86. Liability will not be imposed if, after the person realized there was no reasonable prospect of avoiding insolvent liquidation, he took every step in order to minimise possible losses to creditors of company. Brooks v Armstrong (2015)

2 Taxation: Tax legislation recognizes that group structures need to be treated differently for disclosure and financial reporting purposes eg Section 399 CA 2006 which requires parent companies to produce group accounts. 3 Disclosure under CA: Section 399 CA. Separate legal personality of group structures need to be treated differently for disclosure and financial reporting purposes in order to get a proper overview of the group financial position. Parent companies have a duty to produce group accounts. Section 409. Requires the parent to provide details of the subsidiaries’

names, country of activity, shares it holds in the subsidiary. 4 Employment law: Employment Rights Act 1996. Protects employees’ statutory rights when transferred from one company to another within a group, treating it as a continuous period of employment. 5 As a matter of Public Policy: (a) If the controllers of the company are enemy aliens: Dealing with enemies at a time of war. A company set up in the UK by Germans in 1940s would not fly - corporate veil lifted to look at shareholders and consider them. Daimler v Continental Tyre and Rubber (1916); Trading with the Enemy Act 1939 Daimler v Continental Tyre and Rubber (1916) ● Principle ○ → Corporate veil can be lifted to determine whether a company was an “enemy” during the First World War.

COMMON LAW WAYS OF PIERCING THE VEIL 1 The difficulty in categorizing principles: Over the last 100 years the court has been called upon to apply the principle of separate legal personality in difficult situations. (a) Categorizing by reason for lifting the veil: Some texts have attempted to explain veil lifting by categories: (i) Where the company is a facade or sham used to interpose (ii) Where the company is a single economic entity (not lifting of veil) (iii) Where the company is an agent of another; (not lifting of veil) (iv) Tort (not lifting of veil?) (b) Categorizing by way of lifting: (i) Peeping (where the veil is disregarded and liability is attributed to the members) (ii) Extending (where a group of companies is treated as one legal entity) (iii) Ignoring (where the company is not recognised at all) (iv) Concealing (The concealment principle will not be used to actually pierce the corporate veil but the court will look at the position and find who are the actors behind the actions of the company) (c) This categorisations tell us nothing about how the court may operate in the future: They are just guidance. Thus we still need an accurate statement of this. (i) General rule as the law stands in 2020: The general rule is that Court does not want to lift / pierce the corporate veil as corporate personality is bestowed by statute. Thus, there are only a few exceptions. When these exceptions apply the Court may “evade” the veil.

HISTORY

CLASSICAL VEIL LIFTING 1 Classical veil lifting (1897 - 1966): Veil lifting in exceptional circumstances. (a) Method: Veil lifting. Separate legal personality of the company is not to be maintained. Daimler v Continental Tyre and Rubber (1916); Trading with the Enemy Act 1939; Gilford Motors v Horne (1933); Jones v Lipman (1962); Re Bugle Press (1961) 2 Concealment? This is not truly piercing the veil.

Daimler v Continental Tyre and Rubber (1916) ● Principle: ○ → Corporate veil can be lifted to determine whether a company was an “enemy” during the First World War. Gilford Motor Co v Horne (1933) ● Principle ○ → If a company is used as a device / sham to get out of a prior existing personal obligation then the court can pierce the veil. Jones v Lipman (1962) ● Principle ○ → If a company is used as a device / sham to get out of a prior existing personal obligation then the court can pierce the veil.

Re Bugle Press (1961) ● Principle ○ → If a company is used as a device / sham to get out of a prior existing personal obligation then the court can pierce the veil. THE INTERVENTIONIST YEARS 1 The interventionist years, 1966-1989: Crusade to encourage veil lifting (Lord Denning). Littlewoods Mail Order Stores v IRC (1969); DHN Food Distributors Ltd v Tower Hamlets; (a) Single economic unit argument: DHN Food Distributors v Tower Hamlets. 2 Restricting Lord Denning: Woolfson v Strathclyde Regional Council (1978); 3 Representing SLP as a negotiating point: Re a Company (1985); 4 Restricting it again (back to basics): National Dock Labour Board v Pinn and Wheeler (1989). “The use of the policy to erode established legal principle is not necessarily to be

welcomed” (Lowry) Littlewoods Mail Order Stores v IRC (1969); ● Principle ○ →→Denning argued that a group of companies was in reality a single economic entity and should be treated as one. DHN Food Distributors Ltd v Tower Hamlets; ●

Principle ○ →Denning argued that a group of companies was in reality a single economic entity and should be treated as one. ○ → Single economic entity argument: The courts decided to lift the corporate veil and to treat Company groups as a single economic entity because of the level of involvement they had in each other.

Woolfson v Strathclyde Regional Council (1978); ● Principle ○ →Going back on DHN Food principles. The veil of incorporation would be upheld unless the company was a facade. Re a Company (1985) CoA ● Principle ○ → Court seemed to treat the separate personality of the company as an initial negotiating position which could be overturned in the interest of justice. National Dock Labour Board v Pinn and Wheeler (1989) CoA ● Principle ○ → Court moves firmly against a more interventionist approach at least where the group structures were concerned. BACK TO BASICS 1 Back to basics, 1989 to present: Adams v Cape Industries Plc (1990); Creasey v Breachwood Motors Ltd (1993); Ord v Belhaven Pubs Ltd (1998); Trustor AB v Smallbone (No 2) (2001); Standard Chartered Bank v Pakistan National Shipping Corp (2006); Kensington International v Congo (2006); Samengo-Turner v J&H Marsh & Mclennan (2008); Beckett Investment Management Group v Hall (2007); Antonio Gramsci Shipping Corp v Stepanovs (2011); VTB Capital v Nutritek International Corp (2013) 2 Prest: Prest v Petrodel Resources clarified that the doctrine does exist and can be invoked on public policy grounds but in extremely narrow circumstances where there is no alternative remedy. (a) Principle: The court may pierce the corporate veil only where a person under an existing legal obligation or restriction deliberately evades or frustrates that

obligation or restriction by setting up a company. (b) So does that mean for prior jurisprudence? Although there are past cases where members have been found liable, all of these can in fact be explained on general legal principles without the need for the corporate veil to be pierced. Adams v Cape Industries Plc (1990); ● Principle ○ → Veil can be lifted where company is a mere facade and is used to evade existing obligations: For the veil to be pierced the corporate “structure” has to be used to perpetrate the wrong ○

→ But it is completely legitimate for a corporate group to be structured so that “future” liabilities fall on one member of a group, and not another, ie, the veil cannot be pierced in such a case;

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→ Thus it is not about “justice”: even where there were concerns about the ethics of the respondent’s decision, the court would nonetheless apply the principles of separate legal personality.

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→ A company group will not be regarded as a single economic unit

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→ A subsidiary will not be regarded as a mere agent of a parent where it is a mere intermediary - in order to establish an agency relationship one would be looking for a situation where a representative of the company has, for more than a minimal period of time, carried on the company’s business at or from a fixed place of business. This will often be demonstrated by a written agency agreement or other clear circumstances demonstrating that the alleged agent is carrying on the principal’s business such as the ability to commit the principal to contractual obligations. Acting as a mere intermediary is not enough. ■ Proving an implied agency will also be very difficult as Adams sets the bar very high

Creasey v Breachwood Motors Ltd (1993); ● Principle ○ → The judge seems to suggest that when determining the façade exception it is not only the motives of those behind the alleged façade that may be relevant but also whether they have breached their duties as directors. Ord v Belhaven Pubs Ltd (1998);

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Principle ○ → Overruled judgement in Creasey v Breachwood

Trustor AB v Smallbone (No 2) (2001) ● Principle ○ → Impropriety must be linked to the use of the company structure to avoid or conceal liability for that impropriety. the court is entitled to ‘pierce the corporate veil’ and recognise the receipt of the company as that of the individual(s) in control of it if the company was used as a device or facade to conceal the true facts thereby avoiding or concealing any liability of those individual(s). the corporation must be the ‘device’ through which the impropriety is conducted, impropriety alone will not suffice Standard Chartered Bank v Pakistan National Shipping Corp (2006); ● Principle ○ → Separate legal personality; Two fundamental principles; Separate legal personality; Kensington International v Congo (2006); ● Principle ○ → the court did hold that a dishonest transaction involving transfers between related companies was designed to avoid existing liabilities and was therefore a sham. Thus the court could lift the veil. Samengo-Turner v J&H Marsh & Mclennan (2008); ● Principle ○ → Single economic unit argument: Can be granted if the court is interpreting a statute or document. This exception to maintaining corporate personality is qualified by the fact that t...