In my last blog I explained that companies are separate people from their shareholders and that they own their own assets, contract in their own name, incur liabilities for which they are accountable and earn money which belongs to them (and not their shareholders). The effect of this is that shareholders have limited liability and cannot be held liable if the company goes belly-up. This is the general position in South African company law. However, as with any rule, there are exceptions. There are instances when the company and its shareholders will be viewed as one and the same. We call this ‘piercing the corporate veil’. Before I explain when the corporate veil may be pierced, it is important to point out that it is rarely done. It does not happen automatically, the person wishing to look past the company to its shareholders will have to institute proceedings and even then the Supreme Court of Appeal has said that the separate legal personality will only be disregarded ‘in the most unusual circumstances’ and it will not be set aside simply because it is ‘just or convenient to do so’. Each case is considered individually but typically this extreme measure is only resorted to when, upon consideration of the facts, it is concluded that the company is a sham. Where, when the substance of the situation is considered over the form, it becomes clear that the company is nothing more than a façade and is not in reality being treated as a person separate from its shareholder(s). There is no formula which, if followed will determine whether the company is being used as a façade, but there are a couple of things which, if shareholders do them, are likely to result in a determination that there is really no distinction between the shareholders and the company and, as a result, the separate legal personality of the company may be disregarded. These all have to do with how the shareholder treats the company – do they treat it as something separate from themselves or do they treat it as an extension of themselves? If a shareholder ignores the company’s separate legal personality when it suits them they can’t later rely on it. One of the first factors to consider is control. Is the company entirely controlled by a single shareholder or group of shareholders acting together? Are the shareholders directors? If so, do they take decisions about the company’s day-to-day activities in the best interest of the company, even when these decisions might not be in their personal best interest (as they are legally obliged to do), or do they favour their own interests? Does the company have a ‘mind, will and existence of its own’? Or is it really just a clone of the shareholder(s)? Where the shareholders are exercising so much control over the company that it is really their alter ego, the separate legal personality of the company may well be set aside. Another pertinent consideration is whether the shareholders respect the company’s finances as they would another persons, or do they treat the company account as an extension of their own wallet? If they frequently make personal withdrawals from the company account, pay for personal items out of the company account or make excessive loans to the company or borrow excessive amounts from the company this will raise eyebrows. This is especially likely to be an indication of the company being a façade if these transactions are not properly recorded as drawings in the company’s books or not concluded on market related terms. In addition, where the separate legal personality of the company is being used to achieve some nefarious, wrongful purpose then it may be disregarded by the courts. So, if, for example the shareholder is under a contractual obligation not to do something (perhaps they signed a restraint of trade) they cannot then evade their personal contractual obligations by incorporating a company, which they control, to do exactly what they’re supposed to not be doing. The common thread from the instances set out above is that before the company’s separate legal personality will be disregarded it needs to be unconscionably abused. If it’s abused in a way that benefits the abuser then it is even more likely that the courts will disregard the Company’s separate legal personality. So what are the consequences of the corporate veil being pierced? Well, for that particular instance the shareholders and the company will be viewed as an extension of one another. So if the shareholder is not permitted to perform certain activities, the company won’t be allowed to perform them. If the company owes money, the shareholders can be called upon to pay it. If the shareholder owes money, the company’s assets may be used to settle that debt. If the shareholder has taken all the company assets by executing against the security for a loan they made to the company, the company’s creditors will be allowed to execute against those same assets in the shareholder’s possession. Piercing the corporate veil does not mean that the separate legal personality of the company falls away in its entirety. The company remains a separate legal person for each and every interaction or transaction other than the one in which a court or tribunal has ruled that the veil must be pierced. Remember, at the end of the day the law exists to create certainty and therefore it is necessary that exceptions, like piercing the corporate veil, have as narrow an application as possible. If you have any questions about company law or corporate governance email Tammy-Lynne at tl.bekker@sdglegal.africa.