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A HOLISTIC APPROACH OF SHREDDING THE CORPORATE VEIL OF BUSINESS ENTITIES TO COMBAT WHITE-COLLAR CRIMES
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A HOLISTIC APPROACH OF SHREDDING THE
CORPORATE VEIL OF BUSINESS ENTITIES TO COMBAT WHITE-COLLAR CRIMES
AUTHORED BY - BHAVANA SURAGANI
& SRAVISHTHA T
Abstract:
The growth and diversification of
businesses in contemporary times has opened the floodgates for the commission
of white-collar crimes. These crimes apart from being construed as marginally
distinct from traditional crimes, predominantly occur due to unethical business
practices which are incentivized solely on the grounds of financial gains. It
is instructive to note that with the advent of industrialization and revolution
of technology, white collar crimes have escalated at an alarming rate, and are
typically the most prevalent in the arena of corporate jurisprudence. In fact,
the concept of corporate criminal liability has precipitated a host of debates
revolving around whether a corporation as a distinct artificial body is endowed
with the capability of committing a crime and can be subject to the sanction of
criminal law. To this end, this essay would offer a succinct breakdown of
whether corporations can indulge in criminal activities and would further delve
into the nuances of piercing the corporate veil in light of white -collar
crimes through a host of illustrations. The article would also intend to show
how the concept of “separate legal entity” of business corporations, has been
tactically used to the advantage by individuals controlling the company, in
order to shelter themselves from any penal sanctions.
Paper:
The fundamental axiom governing
Indian Company law is that a corporation is a separate legal entity, distinct
from and independent of its members[1].
Essentially, a corporation is bestowed with the authority to enter into
multiple contracts, make transactions, bear its own name and sue or be sued.
The case of Salomon v Salomon, serves as a good starting point to understand
how the concept of separate corporate personality crystallised as a core
element in corporate law[2]. The House
of Lords incisively ruled that a company is an independent person with its rights
and liabilities appropriate to itself and that the motives of those engaged in
the promotion of the company is deemed irrelevant when examining what those
rights and liabilities are.[3] The second
doctrine that was propounded in the case of Salomon is labelled as limited
liability. The rule of limited liability is fashioned on the understanding that
the liability of the shareholder is restricted to the nominal value of shares
invested by him.[4] Moreover,
in circumstances where the shareholder has paid the entire amount that is
payable towards his shares, he cannot be held accountable for the debts of the
company, ??even if he holds virtually the entire share capital.[5] It is
pertinent to note that the separate corporate personality of a company forms
the bedrock of all commercial and business transactions and is construed as the
most pervading of the fundamental principles of company law. Notably, a
corporate veil is described as a metaphoric veil which endeavours to separate
the company from its members, concomitantly restricting the transmission of
liability on either side. A gripping observation made in the case of Gallaghar v. Germania Brewing Company
was that while a corporation is a legal fiction forming a distinct entity, in
reality, it is an amalgamation of individuals who are the beneficiaries of the
corporate property[6]. It is
important to bear in mind that given the complexity of commercial transactions
and the ensuing illegalities, courts are empowered to pierce the veil of the
company and disregard the independent status of the entity in instances when
the principle of corporate personality is flagrantly opposed to justice,
convenience and is employed as a vehicle to promote fraud or illegalities.[7] A
cursory reading of the above, prods the readers to take cognizance of the fact
that the court is entitled to break through the corporate cloak and to pay
adequate heed to the realities behind the legal facade. The case of Santanu Ray v Union of India, would
offer further clarity and nuance to better grasp the circumstances under which
the corporate veil can be lifted.[8]
The central contention in this case was that the company had infringed upon
Section 11(a) of the Central Excises and Salt Act, 1994.[9]
The court asserted that in the case of economic offences, the veil of the
corporate entity could be immediately pierced by the adjudicating authorities
in order to examine whether the directors engaged in fraud, concealment or
wilful misstatement or violation of the provisions of the act and the rules
made thereunder. [10]
Corporate
Criminal Liability
Another searing question that needs to be addressed here, is that
while individuals managing the company can be made liable for wrongful acts
committed by them, the thornier issue one must engage with is whether the acts
of the individuals can be attributed to the company despite its separate legal
existence. Before embarking on the arena of white-collar crimes, it is
important to dwell into the trajectory of corporate criminal liability and the
myriad of reasons adopted by courts to justify how corporations can be subject
to criminal punishments. The courts in the early twentieth century articulated
that the importance of corporate immunity has substantially watered down since
criminal statutes were engrafted with words such as “everyone”. [11]Essentially,
the courts were of the ardent belief that the word “everyone” could potentially
include under its purview both business entities and corporations.[12]
Gradually, corporations were slapped with a host of criminal law suits, thereby
making it difficult for them to wiggle out of the corpus of criminal law.
It is important to note that
corporate criminal liability was crafted in order to achieve a balance between
the goals of criminal law and the economic inefficiency stemming from
ineffectual corporate law. Legislators were pushed to design corporate criminal
liability with a two-pronged approach. The first, is to ensure that individuals
engaged with a business entity are held morally accountable for their actions
and second is to ascertain the criminal liability of corporations given their
percolation in various spheres of social existence. In India, the lineage of
criminal liability of corporations can be traced back to the Indian Penal Code,
1860. Sec 11 of The Indian Penal Code, 1860 defines “person” as any company, or
association or body of persons and further extends the meaning to include all
body corporations regardless of their incorporation[13].
For eons, the prevalent notion was that corporations, being an artificial
entity, are bereft of the ability to commit white collar crimes since one of
the core elements of criminal law is to provide unflinching evidence with
respect to mens rea, i.e guilty mind. However, over the years, the Indian
Judiciary has emphatically stated that a corporation also has the ability to
commit criminal offences. The case of Iridium
India Telecom Ltd. vs. Motorola Incorporated and Ors is revolutionary in
how it converses with the existing formulation of corporate criminal liability[14].
In a very intuitive and incisive way - the supreme court ruled that the criminal
intent of the corporate body i.e. the individual or group of individuals that
manage and guide the day to day affairs of the business, would be attributed to
the corporation. The court extensively drew from the doctrine of attribution
and imputation.[15] By
embracing the principles of attribution and imputation, the court asserted that
mens rea can be imputed to a corporation in criminal cases, when the affairs of
the company are controlled and executed by an individual or a group of
individuals. It is pertinent to note that the control of the company should be
so intense that one can easily decipher that the company was functioning
through the actions of the person or body of persons.[16]
Therefore, a corporation would be convicted of both statutory and criminal
offences. An acute observation made in the case of Standard Chartered Bank was
that where the law provides for both imprisonment and fine as punishment,
corporations can only be penalised through fines since it is impractical to
imprison an artificial entity. [17] Moreover,
the severity of punishment for corporate bodies in terms of fine would
tantamount to the quantum of gain secured by the corporation in the wrongful
act.
Another interesting observation made
was that the fulcrum of corporate criminal liability in India is that the
criminal act of the employee must have meted out some kind of benefit to the
corporate entity[18]. It is
not a prerequisite that the entity receives the direct benefit from the acts of
the employee nor is it essential that the benefit is completely enjoyed by the
entity[19].
For instance, when an individual managing a corporate entity strives to amass a
heap of wealth by evading taxes or indulging in any economic offences, their
acts have directly benefited and exacerbated the wealth of corporations as
well. Moreover, the nexus between white collar crimes and corporate criminal
liability hasn't gained much steam within the Indian jurisprudence, therefore
it is vital to provide a comprehensive breakdown of the same with the aid of two
seminal contemporary case studies.
Nexus between white collar crimes and
corporate criminal liability studied through the lens of case studies:
Sahara India – Case Study
Sahara India pariwar an Indian
conglomerate was founded in the year 1978, it was termed as ‘the second largest
employer in India' after the Indian Railways at the time. By reaching out to
the rural population in the country as the ‘world’s largest family’, Subrata
Roy the ‘managing worker and chairman’ of the Sahara Group had collected the
hard-earned money of almost four crore Indian citizens as deposits and managed
to cumulate deposits worth Rs.86, 673 crore through four of his cooperative
societies, the group had also claimed that it had raised funds of about Rs.2,
25, 000 crore since inception.[20]
The fraudulent scheme that Subrata Roy executed from the Sahara group’s
initiation began to unfold when Sahara Prime City a real estate venture of the
group filed a Draft Red Herring Prospectus (DRHP) with the Securities and
Exchange Board of India (SEBI) on September 30, 2009 which is a an initial
document that is required to be filed with SEBI in order to roll out an IPO or
initial public offer of shares to public investors. While perusing the said
DRHP, SEBI uncovered a large-scale fund -raising exercise by two Sahara firms
i.e. Sahara India Real Estate Corp Ltd and Sahara Housing Investment Corp Ltd
and further receive two complaints alleging that these two firms used illegal
means in the process of issuance of certain bonds. Consequently, after
conducting scrupulous inspections it was revealed that the funds were raised
through Optionally fully-convertible debentures (OFCD) following the filing of
Red Herring Prospectus with the Registrar of Companies, while acting in
complete ignorance of the fact that there was a mandatory requirement in place
for acquiring clearance from SEBI for any issue of securities to fifty or more
investors. Not only did the number of investors in the present case exceed
fifty, the number went over crores.[21]
Eventually, on November 24, 2010,
SEBI issued an interim order against the two firms, directing them to repay the
money collected from investors, after which the regulator issued a final order
on June 23, 2011. Subsequently, the group filed a complaint with the Securities
Appellate Tribunal on October 2011, however, the tribunal merely affirmed the
orders laid down by SEBI and directed the companies to repay Rs.25, 781 crore
to almost three crore investors.[22]
Aggrieved by this the group moved to the Supreme Court contending that the
jurisdiction of SEBI is limited to administration of listed public companies
which “intend” to get their securities listed on a recognized stock exchange.
However, the court invariably ruled that what was intended by the company could
not be contrary to the mandatory requirement of law, which in this case
stipulated that “listing” with a recognized stock exchange was a mandatory
procedure that was to be undergone in order to invite subscriptions to the
company’s OFCDs. Therefore, the apex court concluded that the jurisdiction of
SEBI would be automatically brought in and it further reiterated the orders
given by SEBI.[23] Subsequently,
the Sahara group defaulted on the repayment of funds even after repeated orders
of the court, due to this the Supreme Court was constrained to put the Amby
Valley project of the Sahara group up for auction to recover the amount
necessary to repay the debt.
While the fraudulent acts committed
by the group have been brought to light, it was argued by numerous experts in
investment banking at the time that the Sahara Group had executed what is
famously known as a Ponzi scheme. A Ponzi scheme is an investment fraud in
which funds given by new investors are used to pay out purported returns to the
already existing investors giving them the idea that the investment scheme is
beneficial; however, when the number of new investors begins to deplete the
company would be in a mound of debt. Where a simple regulatory check through
lifting of the corporate veil or merely peeking through the corporate veil
could have ensured securing numerous investors’ hard-earned money, the
regulatory authorities remained completely oblivious of the massive Ponzi
scheme carried out by the Sahara group which had defrauded crores of Indian citizens.[24]
Even throughout the initial trial
proceedings in this case the doctrine of lifting of corporate veil was never a
subject of discourse, it was only brought forth a few years later when an
appeal was filed in the Securities Appellate Tribunal Mumbai as a result of
SEBI cancelling the certificate of registration of the Sahara Mutual Fund. SEBI
took this measure on the grounds that Sahara India Financial Corporation Ltd.
is not a 'fit and proper person' because its Promoter-Director is not a fit and
proper person and hence the Sahara Mutual Fund and Sahara Asset Management
Company P. Ltd. were no longer fit and proper to carry on the business of
mutual fund. The appellants (Sahara group) contended that since the groups of
companies constituted as distinct legal entities SEBI could not inspect the
private actions of one of the directors as it would lead to lifting of the
corporate veil. Conversely, the respondents stated that lifting of the
corporate veil is permitted under circumstances in which it is intended to find
out who is acting on behalf of the company to determine whether the company
satisfies the ‘fit and proper’ criteria. The court upheld the arguments put
forth by the respondents as lifting of the corporate veil was in the interest
of justice.[25]
Nirav Modi – Case Study
The other fraudulent scheme that has
stunned the financial sector of the country was carried out by the infamous
businessman Nirav Modi. It was reported that Modi and his company leveraged the
Letters of Undertaking (LoUs) which were fraudulently issued by two of Punjab
National Bank’s (PNB) employees without securing cash reserve or collateral and
without recording the transactions in the bank's core banking software in Hong
Kong to secure buyers' credit from the local branches of Allahabad Bank, Union
Bank, Axis Bank, Bank of India, and State Bank of India. The fraudulent
procedure executed by the firms was uncovered when three of Modi’s firms
approached PNB in January 2018 for bank credit via an LoU, the officer in
charge of the bank requested a hundred percent cash margin because these
enterprises had no pre-sanctioned limit. The diamond companies opposed the
bank's claim, alleging that they had previously used this service; however, the
branch records revealed no evidence of such a facility being granted to the
aforementioned firms.[26]
After further investigation, Nirav Modi was declared a ‘fugitive economic
offender’ and was accused of committing a Rs.14, 000 crore scam with the
assistance of a few others. Consequently, a restraint order had been passed
against a number of persons associated with these companies; even though this
was done in the interest of justice it had also encumbered innocent people who
have had no involvement in the commission of the fraud.
In the case of Union Of India v. Gitanjali Gems Ltd. And Ors.[27] ,
the respondents contended that they have had to undergo hardships in a way that
they could not even withdraw money from their bank accounts and have been
penalised for the fraud committed by someone else. After reviewing all the
respondent’s state of affairs the bench ordered for the restraint order to be
vacated against all of the respondents. Customarily, the separate legal entity
of a company is regarded with utmost respect and the court predominantly has
not allowed the lifting of the corporate veil in several occasions wherein the
parties were inclined to disregard the separate legal entity of a company.
However, in order to exempt innocent persons from undergoing such adversities
it is necessary to regularise the procedure of piercing the corporate veil.
Conclusion
White collar crimes committed in the
corporate realm in such a massive proportion not only affect the person(s)
responsible for the crime but they invariably have an impact on the financial
status of the company as well as have a substantial bearing on every person
associated with the company. After a thorough scrutiny of the aforesaid cases,
it is conspicuous that damages ensued from crimes are usually reimbursed by the
company itself as most often, assets of the economic offender are not
sufficient to retain status quo. This results in the company deeply plunging
into losses and placing individuals behind the working of the company in a
state of austerity. On that account, it is essential to take precautionary
measures by the regulatory authorities in the country to ensure that these
crimes are uncovered before causing damages at such a huge scale and further
adopt steps to alleviate the commission of such crimes. In numerous instances,
the courts and the regulatory authorities defer from piercing the corporate
veil as the separate status of business entities are construed as the cardinal
doctrine in corporate jurisprudence. However, this misguided notion paves way
for persons working in the corporations to commit economic offences safely
under the disguise of a separate corporate entity. Therefore, it is essential
for the regulatory authorities and the legal fraternity to be more lenient
while executing the doctrine of lifting the corporate veil and to conduct
systematic regulatory checks in order to ensure such situations do not arise.
[1]
Kunal, Kaushik, “A Critical Study on Corporate Criminal Liability with Special
Reference to India and USA”
[3]
Dahal, Rajib, “Salomon v Salomon & Co. Ltd. [1897] AC 22 – its impact on modern
laws on corporations – selected studies from the UK and the USA”
[6] [1893] 53
MINN.214., cited on Majumdar.A.K, & Dr. G.K.Kapoor, Company Law &
[7] Pareek,
Shanin, “LIC v. Escorts and Beyond – Lifting the Corporate Veil”
[8] 1989 65
CompCas 196 Delhi
[9] Ibid
[11]
Kumar, Abhimanyu, “Corporate Criminal Liability”
[12] Ibid
[13]
S.11, “Indian Penal Code, 1860”
[14]
(2011) 1 SCC 74
[16] Ibid
[17] AIR
2005 SC 2622
[18]
Amlan, Amtin, “Corporate Liability in India”
[20]
Narayan, Kushboo, “Sahara red-flagged for fraud probe: Rs 86,000 crore from 4
crore depositors”.
[21]
Sebi-Sahara case: How it all began, Hindusthan Times. https://www.hindustantimes.com/business/sebi-sahara-case-how-it-all-began/story-u0G51dtoU5yP1nD3ZFjGuJ.html
[22]
Ibid.
[23]
Sahara India Real Estate Corporation Limited & Ors. V. Securities and
Exchange Board of India & Anr. (2012) CIVIL APPEAL NO. 9813 OF 2011
[24]
Kaul, Vivek, “Sahara and Ponzi schemes: What are the parallels?”
[25]
Sahara Asset Management Company P. Ltd. and Ors. v. Securities and Exchange
Board of India (2017) Appeal No. 428 of 2015
[26]
“PNB scam: Chronology of Nirav Modi's case”, Times of India. http://timesofindia.indiatimes.com/articleshow/81209698.cms?utm_source=contentofinterest&utm_medium=text&utm_campaign=cppst
[27]
Union Of India v. Gitanjali Gems Ltd. And Ors. C.P. No. 277/241-242/NCLT/MB/MAH/2018
Article Information
A HOLISTIC APPROACH OF SHREDDING THE CORPORATE VEIL OF BUSINESS ENTITIES TO COMBAT WHITE-COLLAR CRIMES
Authors: BHAVANA SURAGANI, SRAVISHTHA T
- Journal IJLRA
- ISSN 2582-6433
- Published 2023/06/14
- Issue 7
About Journal
International Journal for Legal Research and Analysis
- Abbreviation IJLRA
- ISSN 2582-6433
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