Piercing or peeping round the corporate veil

24 March2017

Article first published by Appleby in March 2017

 

We sometimes come across instances where an Ultimate Beneficial Owner (UBO) sees the underlying assets in a corporate structure as his own, or are asked to advise upon a liquidator’s recourse to an entire group on one company entering liquidation. The concept of separate legal personality or the “corporate veil” is the most fundamental principle of corporate law but it is not always sacred or straightforward. Its relevance is not restricted to companies but also foundations, partnerships which have opted to have separate legal personality and limited liability companies (LLCs).

The Corporate Veil: Separate Legal Personality

A company is a distinct legal entity, distinguishable from its directors and its owners. This concept is the foundation of corporate law. Whether it is a ‘one man company’ (as in Salomon v Salomon1, the case frequently cited as the authority for veil’s existence) or is listed on a stock exchange, the principle is the same: the people that own the company are protected should the company run into financial difficulty, their liability is limited.

The protection of limited liability is generally considered to be advantageous to the health of the economy because it encourages those with the means and resources to take risks and engage in commercial activity. Successful businesses can isolate riskier projects in distinct subsidiaries to avoid putting the whole enterprise in jeopardy should the project fail.

 Legal Schizophrenia

On the other hand, the concept of separate legal personality can also lead to situations where creditors are left out of pocket when a subsidiary collapses, despite the parent being in a healthy state; and it can also leave employees or other injured parties (such as a person with a claim for personal injury) unable to receive compensation because the responsible entity has no funds to meet any award ordered and the claimant has no right of redress against other parties who they may see as ultimately responsible.

The concept has also been used by fraudsters to conceal the profits of their misdemeanours; by cunning individuals to attempt to avoid breaching contractual constraints; and by spouses to protect their individual fortunes in divorce.

The courts have therefore sought to stop abuses of the Salomon principle, but this has led to confusion and uncertainty which in turn has the potential to undermine the benefits of the corporate structure and deter entrepreneurial risk-taking.

The family courts have even sometimes followed their own independent line and ignored the concept of separate legal personality to pierce the veil “when it is just and necessary”2 or where there is a “strong practical reason why the cloak should be penetrable even absent a finding of wrongdoing”3.

The Supreme Court decision in Prest v Petrodel Resources Limited [2013] UKSC 34 has now become accepted as a leading authority on this issue. In this case, the court recognised that there may be times in which it is appropriate to pierce the veil and ignore a company’s separate legal personality to look through to the controlling force behind it where there has been some fraud, but reconsidered previous authorities to show that this has in fact never (or at least very rarely) truly been done, and suggest that courts have instead acted to peep round the veil whilst keeping it intact and upholding the separate legal personality of the company, which the court did in this case.

The Prest v Petrodel decision followed another Supreme Court judgment where the issue was considered at length, VTB Capital plc v Nutritek International Corp and others [2013] UKSC 5, although the VTB case was decided on another ground so carries less legal weight. With these two judgments the Supreme Court have gone a long way to consolidating thoughts on an issue Lord Sumption described as “burdened by authority”4, but some questions still remain.

 


1 Aron Salomon v A. Salomon and Company Limited [1897] AC 22

2 Bodey J in Mubarak v Mubarak [2001] 1 FLR 673, 682C (a decision which overturned by the Court of Appeal)

3 Mostyn J at para 46 of Kremen v Agrest (No 2) [2011] 2 FLR 490

4 Lord Sumption at para 19 of Prest v Petrodel Resources Limited [2013] UKSC 34

 


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