A company is a legal person distinct from its members. This principle may be referred to as ‘the veil of incorporation’. The effect of this principle is that there is a veil between the company and its members i.e., the company has a corporate personality which is distinct from its members. But over a period, the abuses of this corporate personality became apparent. Thus it became necessary for the court to break through or lift the corporate veil or crack the shell of corporate personality and look at the persons behind the company who are the real beneficiaries of the corporate fiction.
The corporate veil is lifted in the following cases;
- Determination of the character
- Where company is a mere cloak or sham
- Where the company is acting as an agent of the shareholders
- Protection of revenue
Statutory exception
1. Number of members below statutory minimum
Sec.45, if a company carries on business for more than 6 months after the number of its members has been reduced below 7 in case of a public company or 2 in case of private company, every person who knows this fact and is a member during the time that the company so carries on business after the six months, is severally liable for the whole of the debts of the company contracted during that time, i.e., after six months. It may be noted that in such a case the continuing members (i.e., those who continue to be members after six months).
a. Can be sued and not those who have withdrawn from the membership;
b. Shall be liable only if they are aware of the fact of the member falling below the statutory minimum.
2. Failure to refund application money
Sec.69 (5), the directors of a company are jointly and severally liable to repay the application money with interest if the company fails to refund the application money of those applicants who have not been allotted shares, within 130 days of the date of issue of the prospectus.
3. Misdescription of company’s name
Sec.147 (4) where an officer or agent of a company does any act or enters into a contract without fully or properly mentioning the company's name and the address of its registered office, he shall be personally liable. Thus where a bill of exchange, hundi or promissory note is signed by an officer of a company or any other person on its behalf, without mentioning this fact that he is signing on behalf of the company; he is personally liable to the holder of the instrument unless the company has already paid the amount.
4. Fraudulent Trading
Sometimes in the course of the winding up of a company it may appear that some business of the company has been carried on with intent to defraud creditors of the company, or any other person or for any fraudulent purpose. In such a case, the court may declare that any persons who were knowingly parties to the carrying on of the business in this way are personally liable without any limitations of liability for all or any of the debts or other liabilities of the company as the court may direct. The court may do so on the application of the official liquidator, or the liquidator or any creditor or contributory of the company.
5. Holding and Subsidiary Companies
In the eyes of the law, the holding company and its subsidiaries (for definition of holding and subsidiary companies) are separate legal entities. But in the following two cases, a subsidiary company may lose its separate identity to a certain extent:
i) Where at the end of its financial year, a company has subsidiaries, it must lay before its members in general meeting not only its own accounts, but also a set of group accounts showing the profit or loss earned or suffered by the holding company and its subsidiaries collectively and their collective state of affairs at the end of the year.
ii) The court may, on the facts of a case, treat a subsidiary company as merely a branch or department of one large undertaking owned by the holding company.