Piercing the Corporate Veil in Pakistan. By Zeeshan Iftakhar and Tashif Ehsan

Transcription

1 Piercing the Corporate Veil in Pakistan By Zeeshan Iftakhar and Tashif Ehsan

2 The Corporate Veil The Corporate Veil is the manifestation of the concept of Limited Liability which allows a firm to maintain its (financial) independence. The rationale behind this concept is that it provides the firms executives a certain degree of freedom to take risks without significantly affecting the fortunes of the Shareholder.

3 A Historical Analysis of Limited Liability Limiting liability in the Roman Republic and its subsequent Empire Developments throughout Europe - The Compera, the Commenda, the Societas or Compagna Limited Liability in Mediterranean Trade (12 th - 15 th Century)

4 A Historical Analysis of Limited Liability The rise of guilds in England and their evolution The Bubble Act 1720 Chartered Companies & Limited Liability

5 What is Corporate Veil Piercing? When a shareholder is held personally liable for the actions of the corporation. Alternate terms: Lifting the Veil of Incorporation; Ascertaining the true nature of the firms ownership.

6 Shareholder Tort Victim Firm Government Investment (inflow) Creditor Liability imposed

7 Situations in which the Corporate Veil May be Pierced Fraud Tax evasion Enemy character Mere cloak Special subsidiary relationships Agency relationships

8 Shareholder Tort Victim Firm Government Investment (inflow) Creditor Liability imposed

9 Veil Piercing as a result of Creditor- Enforced Liability The norm in Pakistan is for financiers (often large banks) to take personal guarantees from Directors and CEO s. While this is reflected in Section 111 of the Companies Ordinance 1984 which provides for a limited company to have directors that have unlimited liability. However, personal guarantees of directors are usually taken independently of statutory provisions and disputes regarding them are rarely brought to court

10 Section 111. Limited company may have directors with unlimited liability. (1) In a limited company, the liability of the directors or of any director may, if so provided by the memorandum, be unlimited. Section 194. Liabilities, etc., of directors and officers. Save as provided in this section, any provision, whether contained in the articles of a company or in any contract with a company or otherwise, for exempting any director, chief executive or officer of the company or any person, whether an officer of the company or not, employed by the company as auditor, from, or indemnifying him against, any liability which by virtue of any law would otherwise attach to him in respect of any negligence, default, breach of duty or breach of trust of which he may be guilty in relation to the company, shall be void: Provided that, notwithstanding anything contained in this section, a company may, in pursuance of any such provision as aforesaid, indemnify any such director, chief executive, officer, or auditor against any liability incurred by him in defending any proceedings, whether civil or criminal, in which Judgment is given in his favour or in which he is acquitted, or in connection with any application under section 488 in which relief is granted to him.

11 Section 32. Effect of registration. (1) On the registration of the memorandum of a company, the registrar shall certify under his hand that the company is incorporated and, in the case of a limited company, that the company is limited by shares or guarantee, as the case may be. (2) From the date of incorporation mentioned in the certificate of incorporation, the subscribers of the memorandum, together with such other persons as may form time to time become members of the company shall be a body corporate by the name contained in the memorandum, capable forth-with of exercising all the functions of an incorporated company, and having perpetual succession and a common seal, but with such liability on the part of the members to contribute to the assets of the company in the event of its being wound up as is mentioned in this Ordinance.

12 Veil Piercing in Tort Cases Tort based liability is not very different from the liability enforced by a creditor except that the cause of action in such cases is more ambiguous in its scope. In such cases, other jurisdictions have largely applied a control-based approach where the liability for the tort is assigned to the member of the company responsible for it (rather than the burden being shared by the shareholders). Pakistan s jurisprudence regarding these type of cases is scarce to the point that only one case exists that fit this category: 1978 PLD 193 SC Superintendent of Police, Federal Investigation Agency, Lahore v. Akhtar Hussain Bhutta was a criminal investigation that probed the sale of substandard medicine.

13 Tax-based Veil Piercing It is common practice to incorporate in jurisdictions where tax is lower or to create holding entities that may be exempt from taxation. The spirit of Tax-based Veil Piercing is to reduce instances of taxavoidance that are facilitated by incorporation. A high profile example can be seen in the case of the Vodafone case in India in which the Indian Supreme Court ruled to retrospectively apply legislation to bring the (Vodafone-Hutch merger) transaction within the jurisdiction of Indian tax authorities.

14 In Pakistan however, most of the litigation regarding tax-based veil piercing has been significantly different due to article 165 of the Constitution: 165. Exemption of certain public property from taxation.-(1) The Federal Government shall not, in respect of its property or income, be liable to taxation under any Act of Provincial Assembly and, subject to clause (2), a Provincial Government shall not, in respect of its property or income, be liable to taxation under Act of Parliament or under Act of the Provincial Assembly of any other Province.

15 Hence a large number of cases that form the Veil- Piercing Jurisprudence in Pakistan, are of certain key Public Corporations claiming exemption from provincially imposed tax on the basis of article 165 of the constitution. This is different from traditional veil piercing since in these cases the management is actually inviting the court to pierce the veil of incorporation and deliberate the status of the true owners of the firm.

16 Important Precedent Messr Sakhi Dattar Cotton Industries v. Messrs Mahmood Pvt. Ltd CLD 191 Kar. Muhammad Yaqoob Sheikh v. Election Tribunal 2013 CLC 1512 President of Pakistan v. Mr. Justice Shaukat Ali PLD 585 SC. Rice Export Corporation of Pakistan v. Karachi Metropolitan Corporation PLD 186 Kar. Ladli Prasad Jalswal v. Karnal Distillery Co. Ltd PLD 221 SC. Lilawati v. Anwarul Islam PLD 25 Kar PLD 1 FSC

17 Conclusion Courts in Pakistan have largely applied a control-based approach to interpreting liability in such situations. Like in most common law jurisdictions, Pakistani courts have been extremely reluctant to pierce the corporate veil and have created an incredibly high threshold in terms of proving fraud and/or deliberate default However, this study reveals only a small portion of the realities as very few veil piercing cases actually reach the courts.