British decision on lifting the corporate veil: Clarity or more confusion?

Considerable difficulty arises in trying to find a coherent set of principles to govern issues related to ‘lifting the corporate veil’. Courts have relied upon several factors in deciding whether to ignore the existence of the corporate entity – ‘fraud’ or ‘sham’, ‘single economic entity’, ‘agency’, ‘tax evasion’, ‘determination of nationality’ etc.

In the early 1990s, in a landmark judgment in Adams v. Cape Industries [1991] 1 All ER 929, the Court of Appeal rejected the argument of ‘single economic entity’. The Court refused to ignore the legal form to look at the economic substance. In a recent judgment in Hashem v. Shayif, Justice Munby of the England and Wales High Court considered in depth several cases on the corporate veil issue, and concluded that for the veil to be lifted; that defendant must have control of the entity, and there must have been some impropriety.

Now, although Adams v. Cape rejected the ‘single economic entity’ argument, it left open the door for agency-based arguments. In this context, ‘agency’ would mean not just a formal contractual relationship but also a ‘factual’ agency. It needs to be considered, then, whether the Justice Munby’s judgment closes the door on agency-type arguments as well because of the insistence on impropriety. Further, at times, Courts have relied on an “interests of justice” rationale to lift the veil. Hashem v. Shayif categorically rejects this approach.

The important conclusions reached by the Justice Munby are as follows [in paragraphs 159 to 164 of the judgment]:

1. Ownership and control of the company are not sufficient to justify the piercing of the corporate veil.
2. The Courts cannot pierce the corporate veil merely because it is thought to be in the interests of justice.
3. The veil can be pierced only if there is some impropriety.
4. Again, mere existence of impropriety is also not sufficient. The impropriety must be linked to the use of the company structure to avoid or conceal liability.
5. It is essential to show both control and impropriety in the sense mentioned in point 4.
6. The test for lifting the veil is – is the company a façade at the relevant time? Whether it is a façade or not is determined by factors 1 to 5. If the answer is “no, it is not a facade”, the veil cannot be lifted at all.

Further, Justice Munby notes that whenever the Courts have lifted the corporate veil, “… the wrongdoer controlled the company, which he used as a façade or device to facilitate and cover up his own wrongdoing … in each of these cases there were present the twin features of control and impropriety.” Thus it would appear that the only way in which the veil can be lifted in by proving the existence of a façade. Agency-type arguments (such as “the company so habitually acts according to the wishes of the defendant that it is should be treated as an alter-ego”) are not sufficient to lift the veil because of the element of “impropriety”. Indeed, specific agency-based arguments were raised before the Court – Justice Munby however said that for any question of lifting the veil, the above factors were the essential test.

It would appear that the judgment has at least one good element – it brings in an amount of certainty in an area where rational principles harmonizing all the cases are hard to find. But, does it restrict too far the understanding of when the veil can be lifted? If so, to what context should the principles derived in the judgment be restricted? Leading authorities including Gower, Palmer and Pennington suggest several grounds on which the veil has been lifted. These include ‘evasion of obligations’, ‘protection of public interest’, ‘abuse of corporate form’, ‘countering fraud, sharp practice and oppression’, ‘disguise of the controlling hand’, ‘substance over form doctrines’ etc. Can all these categories be collapsed into a single category of ‘fraud/sham’?

Also, Courts are often unclear when they use the phrase “lifting the corporate veil”. In a seminal article in the Modern Law Review (May 1990), Prof. S. Ottolenghi characterized judicial action in “corporate veil” cases to be of four types:

1. Peeping behind the veil – merely for the purpose of looking at the controlling persons and for nothing more. This is done in seeing whether a company is a “wholly-owned subsidiary”, an “associated enterprise” etc.
2. Penetrating the veil – for the purpose of fastening liability on the shareholders for the acts of the company or for granting shareholders direct interest in a company’s assets. This does not mean that the company is treated as non-existent; but that despite the company being existent, certain factors require the Court to directly look at the shareholders.
3. Extending the veil – lifting the veil over one company and then pulling it down to include another entity in the same veil. This is the approach in both ‘single economic entity’ and ‘factual-agency’ arguments.
4. Ignoring the veil – entirely ignoring the existence of the company as a ‘façade’ or a ‘sham’.

There would be nothing wrong with Justice Munby’s approach if the case dealt with only the 4^th category – nonetheless, the arguments made before him required him to look at all the categories listed above. Accordingly, he claims to lay down principles which would cover all these categories. But, does the existing case law justify this approach? Or has Justice Munby sacrificed correctness at the altar of clarity?

I will try to answer these questions in a separate post shortly. The judgment itself is available here. A discussion is available on the British Corporate Law and Governance blog here.