Free «Veil of Incorporation» Essay Sample

This paper presents a discussion regarding the veil of incorporation in limited companies. Individuals who desire to commence business are faced with the option of selecting a partnership, sole proprietorship or limited liability company. Various reasons underlie a decision to choose any of the two forms of business. While in partnership the liability of the partners or founders is unlimited, the liability of directors in a limited liability company is limited (Kraakman et al., 2004). This is the greatest advantage of forming such an entity unlike the rest. Below is a discussion of particular circumstances where the law allows the lifting of the veil of incorporation

Cases of Personal Liabilities for Acts of Fraud

The case of Salomon v Salomon and Company forms the basis of judicial precedence. A limited liability company is a different legal entity separate from the owners who started it. The company has its rights and liabilities that cannot be understood to be those of the founders or directors. A limited liability company can sue, own property on its name and carry out business as an independent entity (Lowry and Dignam, 2006). However, under both the UAE and English Company Laws, the veil of incorporation can be lifted on certain circumstances in order to ensure that justice is served.

Lifting the veil of incorporation means to ignore or set aside the separate legal entity status and unmask the identities of directors in order to hold them responsible for their actions or inactions. Where the veil has been used to commit fraud, the law allows lifting of the veil of incorporation (Capuano, 2009). Individuals who rely on the corporate veil to commit acts that they are forbidden to undertake legally would be prevented from doing so by relying on it.

In the case of Gilford Motors Company Limited v Horne of 1933, Horne who was employed as a salesman quit the company. In his contract of employment, a clause barred him from selling motor vehicles within five years of leaving Gilford Motors Limited. Soon after he left the job, he established a company. The company began the business of trading in motor vehicles. The courts held that the company formed by Hornes was meant to engage in an activity whose founder was prohibited from undertaking due to his previous agreement with Gilford Motors Limited. An injunction was issued to restrain Hornes’s company from engaging in motor vehicle trading business. In this case, the veil of incorporation of Hornes’ company was lifted to unmask the owners in order to prevent them from defeating justice.

The veil of incorporation can also be pierced when a company engages in acts of financial mismanagement or impropriety (Lowry and Dignam, 2006). In particular instances, a corporate body has been used to defeat rights due to third parties. In the case of Trustor AB v Smallbone, it was established that the defendant had created a number of companies and trusts with the sole aim of disposing off the assets of his English company. Through such a scheme, creditors would find it difficult to recover what rightfully belongs to them. All these were hatched as the parent company faced an imminent insolvency. In such circumstances, courts could piece the veil of incorporation on all these entities in order to ensure that justice prevails.

In the English Law system, a company that seeks to limit its liability while engaging in illegal activities would have its corporate veil lifted. Trading in criminal activities, for example in drugs, activities that support terrorism, human trafficking and tax evasion would have their directors unmasked and prosecuted for their wrongs. Where the management activities of a company are opaque and devoid of transparency to the extent of causing financial loss to third parties, the veil of incorporation would be pierced (McGaughey, 2011). Directors of a company who fraudulently transfer funds or assets belonging to a company with an aim to benefit themselves would not succeed by relying on the separate legal entity status. Any rights conferred on fraudulent misrepresentation would lead to prosecution of the people responsible in total disregard of the veil of incorporation.

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Instances that may lead to the lifting of the veil of incorporation in order to render the directors liable for any losses that may occur due to their management mistakes also exist. A limited company is supposed to be operational with a minimum of two subscribers (Davies, 2008). A director, who, with the full knowledge of such, engages in trading as a limited company with only one person as a director or subscriber, would be held liable for any claims that may be leveled against the company. All cheques for the company should be in the names of the company. A director who allows company cheques to bear his or her name would be liable in the event that the cheques do not materialize. In such a circumstance, failure of the company management to issue a company cheque would lead to lifting of the veil and have the director responsible for misconduct.

Conclusion

Limited companies are in law held as different and separate legal entities from the owners or founders. They possess rights and responsibilities that do not correspond to the rights and obligations of the directors. The directors have limited liability on the shares contributed or guarantee. However, due to acts of fraud and mismanagement by those who desire to rely on the veil of incorporation to defeat justice, courts have the responsibility to act in order to address the rights of those who aggrieved. Thus, piercing of the veil of incorporation gravitates on the need to ensure legal redress and ensure fairness prevails.