The corporate veil principle

One of the fundamental principles of company law is that a lawfully incorporated company has a legal personality and identity that is separate from its directors or shareholders and is a separate legal entity, vested of separate legal rights and liabilities. Consequently, any liability incurred by the company does not extend to its shareholders (beyond any money paid for their shares) and directors (beyond any personal liability imposed upon them as a result of their directors' duties). The courts are reluctant to undermine legitimate corporate structures by "piercing the corporate veil" and holding shareholders personally liable for the debts and obligations of companies.

The above-mentioned principle applies equally within groups of companies and, as a general principle of company law, the relationship between parent and subsidiary companies is that they are separate legal entities, with the corporate veil only being pierced where there is a sham or façade or where statute requires.

A court may have reason to pierce the corporate veil where a contract justifies the treatment of the parent and the subsidiary as one company (at least for some purposes) or where special circumstances exist, indicating that the company is a mere façade concealing the true facts. In identifying what is a mere façade, the motive of those behind the company will be relevant.

The present position

Isle of Man case law on the topic of piercing the corporate veil has treated English case law as persuasive and so, for the purposes of this article, I have considered the position on piercing the corporate veil as established under English case law.

English case law demonstrates that, although such cases are exceptional, English courts will, in certain circumstances, exercise their jurisdiction to pierce the corporate veil. Where the veil is pierced, the courts may grant remedies against the controllers of a company which, in principle, would ordinarily only be available against the company.

A court may look at the relationship between a group of companies and might find that the necessary standard of reliance for piercing the corporate veil is established where the evidence shows that the parent has a practice of intervening in the trading operations of the subsidiaries. The result would be that the corporate veil would be pierced and the parent and subsidiary would be treated as one company.

English case law has established a number of relevant principles which must be applied when deciding whether the corporate veil may be pierced. Those principles can be summarised as follows:

  • Ownership and control of a company are not sufficient in themselves to justify the piercing of the corporate veil;
  • The corporate veil cannot be pierced (even where there is no unconnected third party) purely on the basis that it is perceived that piercing the veil would be in the interests of justice;
  • There must be evidence of impropriety;
  • Impropriety alone is insufficient cause to pierce the corporate veil. It must be further evidenced that the impropriety is linked to the avoidance or concealment of a liability through the use of a corporate structure; and
  • The court may consider the intentions of the wrongdoer when considering whether to pierce the corporate veil. In any event, it must be shown that the wrongdoer controlled the company and used the company as a device or façade to conceal their wrongdoing.

Irrespective of whether the relevant company was incorporated with deceptive intent, the court will want to see that is was being used as a façade at the time of the relevant transaction(s). A remedy will only be provided in respect of the particular wrong that has been committed.

In summary, arguments based on piercing the corporate veil have only succeeded in very limited circumstances, where the company in question is a sham or façade and has been used for improper purposes.

Recent decisions and potential future developments

The main issue concerning the courts in the English case of VTB Capital plc v Nutritek International Corp and others [2011] EWHC 3107 (CH) was whether piercing the corporate veil could lead to a situation where non-contracting parties would be contractually bound under an agreement entered into by an associated company.

In the VTB case the claimant, VTB (an English bank), lent approximately $225 million to Russagroprom LLC (RAP) to fund the acquisition by RAP of a number of Russian dairy businesses from Nutritek. RAP subsequently defaulted on the loan and VTB, having recovered less than $40 million by enforcing the security provided, alleged that it was induced to enter into the facility agreement by fraudulent representations made by Nutritek and others. VTB alleged that the misrepresentations were part of a conspiracy between a number of legal and natural persons associated with RAP who were not parties to the facility agreement and argued that the court should pierce the corporate veil of RAP to find each of those persons liable under the agreement.

It was decided at first instance in the VTB case that the circumstances in which parties may pierce the corporate veil to bring contractual claims against individuals or companies that were not party to the original contract are limited to cases where there is some 'anterior or independent wrongdoing' by the controller of the company and that person attempts to use the company 'to immunise himself from liability for some wrongdoing' which existed outside the company. In reaching its decision, the court declined to follow the English cases of Antonio Gramsci Shipping Corporation v Stepanovs [2011] EWHC 333 (Comm), [2011] 1 Lloyd's Rep 647 (in which the court did extend the principle of piercing the corporate veil to find a third party liable as a co-contracting party) and Alliance Bank JSC v Aquanta Corporation [2011] EWHC 3281 (which followed the judgment in the Gramsci case).

Permission to appeal was granted in the VTB case and both the English Court of Appeal and the Supreme Court held that it would be contrary to both authority and principle (and therefore inappropriate) to allow the corporate veil to be pierced to treat an alleged controller of a company as a party to a contract entered into by that company.

The English Court of Appeal, in the VTB case, clarified the circumstances in which the English courts may pierce the corporate veil, rejecting the appeals from VTB and holding that the mechanism of piercing the corporate veil should not be used to allow contractual claims to proceed against non-contracting parties. In so holding, the Court of Appeal overruled the relevant parts of the decisions in the Gramsci case and the Alliance Bank case mentioned above as having been wrongly decided.

The Supreme Court, in the VTB case, found that it was unnecessary and inappropriate to decide whether the court has the power to pierce the corporate veil and acknowledged that the precise nature, basis and meaning of the principle of piercing the corporate veil, as well as the precise nature of the circumstances in which the principle can apply, are all 'somewhat obscure'. The Supreme Court expressly reserved for future decision the question of what is the true scope of the circumstances in which it is permissible to pierce the corporate veil, as well as the question of whether the Gramsci case was correctly decided.

The Supreme Court's judgment in the VTB case did little to clarify the law in connection with piercing the corporate veil and left open the question of whether there is scope for the principle to be extended in such a way in the future.

Most recently, the English Court of Appeal considered this issue in the case of Petrodel Resources Limited and others v Prest ([2012] EWCA Civ 1395), in which the Court of Appeal granted permission to appeal its decision in the case. The case raised the question of whether courts have the jurisdiction in financial remedy proceedings to order the transfer of properties or other assets belonging to companies owned by the parties. The appeal was heard, unusually, by a seven member panel of the Supreme Court on 5 and 6 March 2013 and it is expected that the Supreme Court's judgment will be handed down within 8 to 12 weeks of the hearing. That judgment should, hopefully, bring some welcome clarity to this area of the law.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.