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Explain the corporate principle of separate legal personality

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02/02/18 Free Law Essays Reference this

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Explain the corporate principle of separate legal personality

Companies which are registered under the Companies Act are deemed to have legal personality. They are treated as ‘legal persons’ with full contractual capacity and accountable

for their conduct and obligations. An essential element of the registered company

is that it is a legal person with a separate existence from its members (shareholders) and its directors.

“Piercing the corporate veil,” is now regularly applied by the courts in both common law and civil law jurisdictions. It refers to the judicially imposed exception to the separate legal entity principle, whereby the courts disregard the separateness of the corporation and hold a shareholder responsible for the actions of the corporation as if it were the actions of the ‘legal persons’

Laffoy J stated in Fyffes Plc v Dcc Plc & Ors ,

“It has been a fundamental principle of Irish company law since the decision of the House of Lords in Salomon v. Salomon and Company Limited [1897] that a company registered under the Companies Acts is an artificial legal entity separate and distinct from the members, whether natural or corporate persons, of which it is composed.”

The ‘veil of incorporation’ may be lifted by the judiciary or by statute. The former is depending on the judges’ discretion on whether to lift or not to lift this veil. This discretion gives judges more flexibility when it comes to counter fraud, sharp practice, oppression and/or illegality. Re Darby Aspatra Sdn Bhd & Others v Bank Bumiputra Malaysia Gilford Motor Company Ltd v Horne Jones v Lipman In some cases, courts are willing to ignore the principle of legal corporate personality when it comes to situations where it involves public interests (Daimler Company Ltd v Continental Tyres & Rubber Company Ltd), or where the company is formed to evade legal obligations (Creasey v Breachwood Motors Ltd & Re H & Others).

As we have mentioned above, the veil of incorporation may be cast aside by the statute. For the purpose of imposing liability on a human constituent of the company, the legislation has only purports to disturb the corporate veil by far only to the effect of piercing the veil; will not completely remove the veil. Most of the statutory provisions are aiming on curbing and penalising delinquent company directors of insolvent companies and allowing creditors to recover some money by imposing personal liability on the directors.

The general rule is laid down in Salomon v. Salomon and Company Limited   as stated by Marc Moore in his recent article,   the House of Lords, 

“emphasised that the formally separate personality of a company should prevail in the eyes of the law and, consequently, in the opinion of a court, regardless of any economic or moral considerations that might otherwise justify regarding a registered company as the mere extension of its de facto incorporators.”

In the mentioned case, after running a successful leather business as a sole trader Mr Salomon then set up a company.. He loaned the company money as the main shareholder which he secured with the assets of the company. He observed the tenets of company law at all times. He was also the main shareholder and the main creditor due to the loan. The question in this case was whether Mr. Salomon debts should take precedence over the unsecured creditors when the company was wound up. The unsecured creditors seen this as a sham used by Mr Salomon by using the company. If Mr. Salomon won the case, the creditor would receive no money, vice versa. It was held in House of Lords that Mr Salomon and the company was indeed a separate legal entity and Mr Salomon who was both the shareholder and the secured creditor was allowed to be repaid the money owe to him by the company as the first secured creditor. Similar approach was applied in Lee v Lee’s Air Farming Ltd (1961) ; Battle v Irish Art Promotion Centre Ltd (1968)

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Examples of situations where the veil of incorporation may be cast aside in common law is when there is an element of fraud; an abuse of separate entity principle; to give effect to the true intentions of parties to an agreement, where the group is essentially a single unit or when the veil is merely to be used as a means to defeat justice.

The Court of Appeal recognised the ‘mere façade concealing the true facts’ as being a

well-established exception to the Salomon principle. The case of Jones v Lipman (1962)

above is the classic example. In Jones v Lipman [1962] 1 WLR 832 Mr Lipman had entered into a contract with Mr Jones for the sale of land. Mr Lipman then changed his mind and did not want to complete the sale. He formed a company in order to avoid the transaction and conveyed the land to it instead. He then claimed he no longer owned the land and could not comply with the contract. The judge found the company was but a façade or front for Mr Lipman and granted an order for specific performance. There Mr Lipman’s sole motive in creating the company was to avoid the transaction. In determining whether the company is a mere façade the motives of those behind the alleged façade may be relevant.

Courts are willing to lift the veil to do justice particularly where an element of fraud was involved.  In Aspatra Sdn Bhd & Ors v Bank Bumiputra Malaysia Bhd (1988) Respondents sued Lorrain Osman for an account of secret profits that he allegedly made while he was their director and chairman; also made an ex parte application for a Mareva injunction to restrain appellant from transferring his assets out of jurisdiction.

Another illustration to this is the case of Hotel Jaya Puri Sdn Bhd v National Union Bar & Restaurant Workers & Anor (1980) High Court held that the hotel and the restaurant were separate legal entities but in reality the two companies were functionally one.

Aside from judicial veil lifting, recently in tort, the courts have been increasingly facing the possibility of negating the strict stringent approach in Soloman by finding a torturous liability against a shareholder (usually also a director) for activities carried out through the medium of a company. This is shown in the case of Williams v Natural Life Health Foods Ltd [1998] 2 All ER 577. The House of Lords seemed particularly aware that the effect of this claim was to try to nullify the protection offered by limited liability. In its judgment the House of Lords considered that a director or employee of a company could only be personally liable for negligent misstatement if there was reasonable reliance by the claimant on an assumption of personal

responsibility by the director so as to create a special relationship between them. There

was no evidence in the present case. There had not been any personal dealings which could

have conveyed to the claimant that the managing director was prepared to assume personal

liability for the franchise agreement.

Courts are also willing to lift the veil when the tort is a deceit rather than negligence. Courts are more readily allowed liability to flow from director or employee. (Daido Asia Japan

Co Ltd v Rothen [2002] BCC 589 and Standard Chartered Bank v Pakistan National Shipping Corp (No.2) [2003] 1 AC 959.) Similarly, in Koninklijke Philips Electronics NV v Princo Digital Disc GmbH [2004] 2 BCLC 50, a company director was also held personally liable.

In short, there are many ways that may lift the veil of incorporation. Courts are more willing to apply a more relaxed approached. In essence the judiciary are being asked to decide who loses out when a business ends. At times, however, the Salomon principle was only a starting point and the courts would lift the veil in a number of situations if the interests of justice required them to do so. This led to great uncertainty, however a more preferred and flexible approach to cope with modern days situations, also to bring more fairness and less rigidity.

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