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The corporate veil: an overview and update from recent cases

17 October 2019

A key feature of a limited company under English law is that it exists as a separate legal entity. As such, the company itself assumes responsibility for its own debts and liabilities, rather than the directors and shareholders. However, there are specific circumstances in which directors and shareholders of a limited company can be found personally liable for the company’s debts and liabilities.

Does the corporate veil protect shareholders from liability?

Protection from liability is virtually absolute save for rare occasions when a court may be willing to intervene and 'pierce the corporate veil'. Such a phrase refers to the ability to look beyond the separate legal personality of the company and find liability elsewhere.

The set of circumstances in which the 'lifting' process in respect of shareholder liability may be triggered is set out in the test from the Supreme Court case of Prest v Petrodel Resources Ltd [2013] UKSC 34. The case involved divorce proceedings, with an assessment made of Mr Prest’s assets, some of which were held by companies under his ownership. Mr Prest was ordered to satisfy a lump sum payment of £17.5 million to his wife by way of transfer of 7 properties under ownership of 2 companies believed to be under his control. The court considered piercing the corporate veil in order to treat the companies’ property as effectively Mr Prest’s property and to facilitate the transfer from the companies to Mrs Prest. The court came up with the following test to confirm the circumstances in which the protection of the separate corporate personality might not hold.

The person (i.e. shareholder) is:

  • under an existing legal obligation or liability or is subject to an existing legal restriction; and
  • they deliberately evade the obligation/liability/restriction, or whose enforcement they deliberately frustrate by interposing a limited company under their control.

In summary, the piercing of the corporate veil may occur only to prevent the abuse of the company’s legal personality. In this case, the piercing of the corporate veil did not help Mrs Prest because there was no impropriety in the way her husband used the companies to hold the assets. However, the court held that Mr Prest was clearly the beneficial owner of the properties and ordered the property transfer to Mrs Prest by operation of the Matrimonial Causes Act 1973. The Prest test made it possible for a court to pierce the corporate veil solely for depriving the company or its controller of the advantage which they would otherwise have obtained by the company’s separate legal personality. However, it is important to note that if there is another legal remedy available then the piercing of the corporate veil will not be necessary or available.

Does the corporate veil protect directors from liability?

Relative to shareholders, protection for directors is less favourable and not as comprehensive. Therefore, directors must be aware of the risk and possibility of incurring personal liabilities under statute. Examples include for offences of fraudulent or wrongful trading, or involvement in approving transactions at an undervalue (accountable under the Insolvency Act 1986). In more recent times there are examples of a number of further statutory duties imposed on directors extending personal liability – such as under the Data Protection Act 2018 and the Enterprise Act 2002. Directors also face the risk of incurring liability in circumstances where they acted in the management of the company when disqualified. In relation to bankruptcy matters, trustees in bankruptcy are able to seek court approval to pierce the corporate veil in respect of companies operated by an undischarged bankrupt. For example in the case of Wood and another v Baker and others [2015] EWHC 2536 (Ch), a trustee succeeded in obtaining an injunction and freezing the business and assets of third party companies which were interposed and operated by an undischarged bankrupt to conceal monies properly belonging to him.

How can directors and shareholders learn from recent commercial cases testing the resilience of the corporate veil?

The resilience of the corporate veil was tested in the 2019 Court of Appeal case of Rossendale Borough Council v Hurstwood Properties Ltd [2019] EWCA Cov 364. The case focused on payments of business rates and the use of special purpose vehicle (SPV) companies to avoid rate liability. Hurstwood Properties Ltd owned a number of business premises in various locations and formed SPV companies to which it leased the properties. Not long after the incorporation of the SPV companies, they were placed into compulsory liquidation. Legislation provides that the 'owner' party who has the immediate legal right to actual physical possession of the property is the ratepayer. Therefore, in the case of leasehold properties, liability for rate payment rests with the tenant. It is important to note that an exemption from liability for rates applies if the “owner” is in liquidation. As such various schemes are utilised by property developer companies creating similar SPVs for the purpose of both (a) granting a lease and then (b) subsequently placing the SPV into liquidation. As a test case, in retaliation for widespread rate-avoidance measures, local authorities led by Rossendale Borough Council brought forward a claim against Hurstwood. RBC sought a court declaration on grounds that the corporate veil should be lifted to impose liability for the business rates on Hurstwood as the freeholder and landlord. The court refused to make such a declaration and ruled that, although accepting that the SPV companies may potentially have been created for an ethically dubious purpose in avoiding a charge to business rates, the practice was not illegal and the companies had not been interposed to avoid an existing legal obligation. In reaching its decision the court applied the Supreme Court’s Prest test.

However in the case of Inter Export LLC v Townley [2019] EWCA Civ 2068 – the court found that the corporate veil could be pierced so that directors could be personally liable for fraudulent misrepresentation. The case involved a director, Ms Townley, making false representations about a company’s ability to pay $1.2m for a shipment of sunflower oil. The fact of Townley’s inability to pay was not discovered until after the goods had been shipped – owing to the deliberate and criminal fraud of Ms Townley. Therefore, the court held that Ms Townley was personally liable for the deceit involved in making representations which led to the contract, even though on the face of it the representations were made by the company itself.

Conclusion

The Courts are prepared to pierce the corporate veil in clear cases of individual wrongdoing. Individuals should be under no illusion about believing that the law or constitution of a company will provide absolute protection from liability. At the same time, as highlighted by the Rossendale case and specifically in the context of SPVs reducing liability to business rates, courts have permitted the use of schemes of an ethically dubious nature, provided such actions do not contravene the established test set by the case of Prest. If this test is complied with, the corporate veil remains intact and undisturbed.

By Daniel Baker

For further advice on commercial contractual disputes, please call us on 01483 543210 or alternatively email enquiries@barlowrobbins.com