PIERCING THE

CORPORATE VEIL IN
TAXATION MATTERS
Presented by:
PRERNA BAHETI
 CONCEPT OF CORPORATE VEIL
 The main idea following corporate law is that a corporation and its
shareholders are separate legal entities, where its rights and liabilities are
distinct from the rights and liabilities of the shareholders.
 The doctrine of separate legal entity of the corporations developed by the
Common law courts in the 17th century serves as the foundation for governing
multinational corporations today.
 The concept of limited liability arose out of the growth of enterprises in the
19th century as a necessity to protect the interest of investors by limiting their
liability to the extent of the investment they had made in the company.
 The doctrine of separate legal entity and limited liability give rise to an
artificial veil, also known as the corporate veil between the company and
those who are managing the company or invest in the company.
 A separate legal personality is not a blanket rule under which obligations under the
law can be bypassed, and to ensure this, the doctrine of lifting of corporate veil was
created.
 The corporate veil can be lifted only in exceptional circumstances to ascertain who is
in the real control of the company.
 Through this, the Courts can look beyond the separate entity of a corporation, and
identify the shareholders who are actually guilty.
 It is difficult to avoid the conclusion that the courts are committed to the preservation
of separate legal personality of companies except where the statutory wording clearly
requires the opposite.
 Lee v. Lee’s Air Farming Ltd. : Lee- the sole governing director as well as the chief pilot
of a company for carrying out the business of aerial topdressing. Took insurance for the
company against liability to pay compensation under the Workmen’s Compensation
Act. He died in a flying accident. The Court of Appeal of New Zealand refused to
provide compensation to his widow on the ground that Lee was not a worker of the
company.
 However, the Privy Council reversed this judgment on the ground that Lee and
his company were separate personalities and that it was only through
contractual relationships that he had become the pilot and the employee of the
company. Therefore, the relationship between Lee and the company was that of
master and servant. His widow was thereby given the compensation.
 Salomon v. Salomon : Where it was decided that for while, by fiction of law, a
corporation is a distinct entity, yet in reality it is an association of persons who
are in fact the beneficial owners of all the corporate property. In other words, the
business of the legal person is always carried on by, and for the benefit of, some
individuals. In the ultimate analysis, some human beings are the real
beneficiaries of the corporate advantages.
 PNB Finance Ltd. v. Shital Prasad Jain : Where a person borrowed money from a
company and invested it in shares of three different companies in all of which he
and his son were the only members, the lending company was permitted to
attach the assets of such companies as they were created only to hoodwink the
lending company.
 Gilford Motor Company v. Horne : The Court held that the company was a mere
cloak or sham for the purpose of enabling the defendant to commit a breach of
his covenant against solicitation, to obtain the advantage of the customers of
the plaintiff company.
 Daimler Co. Ltd. v. Continental Tyre & Rubber Co. Ltd. : The House of Lords laid
down that where a company was incorporated in England but its real control
lied in the hands of Germans who were, at that time, in war with England, then
the English company may assume an enemy character which would have been
used as a machinery for the purpose of giving money to the enemy, and this
would be monstrous and against public policy.
 Smith, Stone & Knight Ltd. v. Birmingham Corporation : Atkinson J. ruled that it
is well settled that the mere fact that a man holds all the shares in a company
does not make the business carried on by that company his business. There
may be such an arrangement between the shareholders and the company as
will constitute the company the agent of the shareholders. But this cannot be
allowed.
 GROUNDS
1. Fraud or improper conduct : Gilford Motor Company v. Horne
2. Benefit of revenue : Dinshaw Maneckjee Petit v. Commissioner of Income
Tax
3. Enemy character : Daimler Co. Ltd. v. Continental Tyre & Rubber Co. Ltd.
4. Sham company
5. Single economic entity : DHN Food Products Ltd. v. Tower Hamlets
6. Agency or trust : Smith, Stone & Knight Ltd. v. Birmingham Corporation
7. Avoidance of welfare legislation
8. Public interest
LIFTING THE CORPORATE VEIL – UK REGIME
 Prest v Petrodel Resources Ltd. & Ors. : Lord Sumption differentiated between
piercing the corporate veil and peeking behind the corporate veil.
 While peeking, the economic characteristic of a company may be looked at
without lifting the corporate veil. However, when piercing the veil, the standard
is much higher, for example, when a company acts fraudulently.
 He further distinguished between concealment principle and the evasion
principle.
 When using the concealment principle, Lord Sumption argues that the
corporate veil is not pierced at all. In fact, it is just the concealment of the real
actors in a company that the Court tries to unravel. The evasion principle, on
the other hand, uses the piercing of the corporate veil to ascertain whether
there exists a legal right or obligation on part of the member or the shareholder
independent of the company.
 TRC vs Duke of Westminster : House of Lords distinguished between tax
avoidance and tax evasion. The House in that case stated that the citizen has the
legal right to dispose of his capital and income so as to attract upon himself the
least amount of tax. Avoidance of tax is not tax evasion and, it carries no disgrace
with it, anybody can so arrange his affairs so as to reduce the burden of tax to
minimum. The House observed that given that a document of transaction is
genuine the court cannot go behind it to some supposed underlying substance.
 W. T. Ramsay vs Inland Revenue Commissioners : A departure from the
Westminster principle. The House of Lords had to consider a scheme of tax
avoidance which consisted of a series or a combination of transactions each of
which was individually genuine but all of which as a whole resulted in tax
avoidance. The House laid the principle that the fiscal consequences of a series of
transactions, are generally to be ascertained by considering the result of the
series as a whole, and not by dissecting the scheme and considering each
individual transaction separately. The principles given in Ramsay were reiterated
in further cases like the Vodafone case.
 LIFTING THE CORPORATE VEIL – INDIAN REGIME

 There is a hairline difference between tax evasion and tax avoidance. The former
is a blatant illegality whereas the latter allows taxpayers to organize their tax
liability within the boundaries of the law.
 Tax planning can be defined as an activity undertaken by an assessee to reduce
the tax liability by making optimum use of all permissible deductions,
concessions, exemptions, rebates, exclusions, etc. available under the tax regime.
 Colorable devices cannot be part of tax planning and it is wrong to encourage or
entertain the belief that it is honorable to avoid payment of tax by resorting to
dubious methods.
 The court has the power to disregard the corporate entity if used for tax evasion
or to circumvent tax obligation.
 A company is an independent juristic entity and is expected to conduct its
financial affairs in a manner that does not defeat a taxation statute by illegally
concealing income or avoiding tax liability. There has been a tendency to use the
corporate structure for the sole purpose of evading tax. It is under these
circumstances that the Courts and tax authorities are empowered to investigate
into an assessee’s business and inquire into the economic realities of the
assessee’s transactions.
 The doctrine of piercing the corporate veil in tax matters was revived with the
increase of cross-border business transactions, particularly those transactions
which sought to restructure businesses by purchase of assets or by mergers and
amalgamations.
 The Commissioner of Income Tax (Cental) v. Rockman Cycles Industries Private
Ltd. : If some device has been used by the assessee to conceal the true nature of
the transaction, it is the duty of the taxing authorities to unravel the device and
determine its true character. However, the legal effect of the transaction cannot
be displaced by probing into the ‘substance of the transaction’. The taxing
authorities must not look at the matter from their own point but from the point of
a prudent businessman. Each case will depend on its own facts.
 VODAFONE CASE
The Hutch-Vodafone deal took place in 2007 that involved the transfer of shares of a
foreign company outside India, which indirectly held the shares of an Indian company.
HTIL – company incorporated in Cayman Island. The seller.
 VIH - company incorporated in Netherlands. The purchaser of shares of CGP.
 CGP - company incorporated in Cayman Island. Its shares had been transferred.
 HEL - company incorporated in India. The main business company.

100% 67%
HTIL CGP HEL VIH

TDS
TDS
Transaction between VIH (non-resident) and HTIL (non-resident).

Transfer of share capital of CGP 67% controlling interest

HTIL VIH HEL

Thus, income of HTIL (seller) liable to deduct tax at source.

 VIH liable to pay taxes under Section 195
 The Indian Revenue authorities issued a show cause notice to VIH as to why it should not
be considered as assesse in default and thereby sought an explanation as to why the tax
was not deducted on the sale consideration of this transaction.
 The Indian revenue authorities thereby through this sought to tax capital gain arising from
sale of share capital of CGP on the ground that CGP had underlying Indian Assets.
 VIH filed a writ petition in the High Court challenging the jurisdiction of Indian revenue
authorities. It was dismissed by the High Court. VIH appealed to the Supreme Court which
sent the matter to Revenue authorities to decide whether the revenue had the jurisdiction.
The revenue authorities decided that it had the jurisdiction over the matter and then
finally Special Leave petition was filed in the Supreme Court.
 The issue before the Apex court was whether the Indian revenue authorities had the
jurisdiction to tax an offshore transaction of transfer of shares between two non-
resident companies whereby the controlling interest of an Indian resident company
is acquired by virtue of this transaction.
 The revenue submitted that this entire transaction of sale of CGP to VIH was in
substance transfer of capital assets in India and thus attracted capital gain taxes.
Transaction led to transferring of all direct/indirect rights in HEL to VIH and this entire
sale of CGP was a tax avoidance scheme and the court must use a dissecting
approach and look into the substance and not the form of transaction as a whole.
The court held that in Indian revenue authorities do not have jurisdiction to impose
tax on an offshore transaction between two non-residents companies where in
controlling interest in a (Indian) resident company is acquired by the non-resident
company in the transaction.
 The term sham was discoursed in the background of tax evasion. Once the
transaction is shown to be fraudulent, sham, and circuitous to defeat the interests of
the shareholders, investors, parties to the contract and also for tax evasion, the
Court can always lift the corporate veil and examine the substance of the
transaction.
 SOME IMPORTANT OBSERVATIONS
 Corporate structures : Ministry of Corporate Affairs recognize such structures
that consist of Holding and subsidiary companies wherein Holding company may
include enough voting stock in the subsidiary to control the management and
also hinted that many transnational investments are made in tax neutral /investor
friendly nations primarily so as to avoid double taxation or plan activities in
manner to yield best returns to investors. The burden is entirely upon the
revenue to show that such incorporation, consolidation, restructuring has been
affected for fraudulent purpose so as to defeat the law or evade the taxes.
 Overseas companies : Many overseas companies invest in countries like
Mauritius, Cayman Island due to better opportunities of investment and these are
undertaken for sound commercial and sound legitimate tax planning and not to
conceal their income or assets from home country tax jurisdiction and India have
recognised such structures. These offshore transactions or these offshore
financial centres do not necessarily lead to the conclusion that these are involved
in tax evasion.
 Holding and Subsidiary Companies : The companies act have recognized that
subsidiary company is a separate legal entity and though holding company control the
subsidiary companies and respective business of the company within a group but it is
settled principle that business of subsidiary is separate from the Holding company. The
Holding company and subsidiary companies may form pyramid of structures whereby the
subsidiary company may hold controlling interest in other companies forming parent
company.
 Shares and controlling interest : The transfer of shares and shifting of controlling
interest cannot be seen as two separate transactions of transfer of shares and transfer of
controlling interest. The controlling interest is not an identifiable or a distinct capital asset
independent of holding of shares and is inherently a contractual right and not property
right and cannot be considered as transfer of property and capital assets unless the Statue
stipulates otherwise.
 Corporate veil : The principle of lifting of corporate veil can also be applied in
relationship of Holding and subsidiary company in spite of their separate legal
personalities, if facts reveal that the transaction or corporate structure is sham and
intended to evade taxes. The revenue authorities should look at transaction in a holistic
manner and should not start with the question that the impugned transaction is done with
an intent to avoid tax.
 Role of CGP : CGP was already part of HTIL corporate structure and sale of CGP
share was a genuine business transaction and commercial decision taken interest
of investors and corporate entity and not a dubious one.
 Extinguishment of rights of HTIL in HEL : The acquisition of shares may
carry the acquisition of controlling interest and this is purely a commercial
concept and the tax can be levied only on the transaction and not on its effect
and hence, consequently, on transfer of CGP share to Vodafone, Vodafone got
control over eight Mauritian Company and this does not mean that the site of CGP
share has shifted to India for the purpose of charging capital gains tax.
 Section 9 : The tax is imposed on the basis of source and this source in relation
to income is the place where the transaction of sale takes place and not where
the item of value which was subject of the transaction is derived or acquired from.
The charging section is to be strictly construed and section 9 (1) (i) cannot be
extended to cover indirect transfer of capital assets in India by interpretation,
unless specifically provided so.
 NDTV CASE
 NDTV, as the assessee, was involved in a host of monetary transactions that
occurred outside of India through its subsidiaries. NDTV argued that each of these
subsidiaries (NNIH Netherlands and NNPLC United Kingdom) were independent
assessees in India.
 The Assessing Officer disagreed and proceeded to pierce the corporate veil to
determine that NDTV had evaded taxes in India by acting through its offshore
subsidiaries by considering factors like NNPLC United Kingdom was under-
capitalised, there were common directors across the companies, NNPLC United
Kingdom promoted the interest of the group of companies and there were no fixed
assets or offices for the offshore companies.
 Individually, these factors could not amount to sufficient reasons for piercing the
corporate veil, the Officer concluded that together, the corporate personalities of
these companies seemed suspicious. Thus a much lower standard used as
opposed to Voda case.