Lifting of Corporate Veil /Peeping

behind the veil in Tax Matters

In Re, Sir Dinshaw Maneckjee Petit, Bart, 1926 Indlaw MUM
80; AIR 1927 BOM 371
 Apthorpe v Peter Schoenhofen Brewing (1899) 15 T.L.R. 245 (A.C.)
 Shares held by English Co. (Except three shares) –
 In a New York Co…
 Business was of NY Co., or English Co?
 Held that NY business was that of the English Co. which was
liable for English income-tax accordingly.
 Answer lies in the relationship that is established between SH &
the corporation. As a very minimum, the corporation must be
vested with the assets with which its business is to be carried on
 Re FG Films Ltd [1953] 1 WLR 483 Production of the Film
‘Monsoon’
 Applicants intervention was purely colourable, & they were
brought into existence for the sole purpose of being put forward
as having undertaken the arrangements necessary for the
making of the film & of enabling it to qualify as a British film.
 Sec. 44 in relation to a film, the person by whom the arrangements necessary
for the making of the film are undertaken.
 CIT v Sri Meenakshi Mills Ltd. & Ors
AIR 1967 SC 819, JJ. Ramaswami, V Shah, J.C. Bhargava, Vishishtha

Pudukottai - Former Native State

Production & Sale-proceeds of the Branches

Sale of cotton yarn - Periodically deposited in the
branch - MBL

Thyagaraja
Chettiar
S no Name Share holding
1. Thyagaraja Chettiar 1,008
2. Manickavasagam 15,000 Shares
250 –
3. Sundaram 14,766 held250by TC, his 2
4. Meenakshi Mills Sons & 3 Assessee
5,972 - Co’s
5. Rajendra Mills 3,009
6. Saroja Mills 4,177
Assessment years Meenakshi Mills Rajendra Mills Saroja Mills
Earned interest for - Assessment years as follows:
1946-47 Rs. 1, 08, 902 Rs. 25,511
1947-48 1, 18, 791 24, 953 30,620
1948-49 1, 50, 017 33, 632 36,890
1949-50 42,369 41,393
1950-51 1, 27, 314 41, 957 42,092
 Section 42 of the Act
 All income, profits / gains accruing / arising
 Whether directly / indirectly
 Through / from any money lent at interest &
 Brought into the taxable territories in cash / in
kind
 Shall be deemed to be income accruing / arising
within the taxable territories
 IT assessed for - Entire profits of Co’s including
the interest receipts (Pudukottai branches)
 Overdrafts availed of by Co’s in British India
far exceeded the available profits.
 Co’s Appeal - Asst. Comm. of Income-tax.
 Appellate Tribunal upheld the IT order.
 High Court – in favour of the Co’s
 Appeal to the SC
 Appellate Tribunal
 Pudukottai - is neither a cotton producing area
nor has a market for cotton;
 Except that it was a non-taxable territory
 Nothing else to recommend the carrying on of
the business in cotton spinning or weaving there.
 Non-taxable area - many very rich men there
with an influx of funds to invest in banks &
industries. (So no one would have come to
borrow?)
 Evidence was found that
 Transference of funds from Pudukottai to
Madurai was made as part of the basic
arrangement between the Bank & the Co’s &
 TC who was the moving figure both in the Bank
& Co’s had knowledge of this arrangement.
 Established that in a matter of this description
the IT authorities are entitled to pierce the veil
of corporate entity & to look at the reality of the
transaction.
 CIT v Sri Meenakshi Mills Ltd.
[1967] 63 ITR 609 (SC)
 “It is true that from the juristic point of view, the
Co. is a legal personality entirely distinct from its
members & the Co. is capable of enjoying rights &
being subjected to duties which are not the same as
those enjoyed or borne by its members.
 But in certain exceptional cases the court is entitled
to lift the veil of corporate entity & to pay regard
to the economic realities behind the legal facade.
 For e.g., the court has power to disregard the
corporate entity if it is used for tax evasion or to
circumvent tax obligation.
 McDowell & Co. Ltd. v.
Commercial Tax Officer, [1985] 3 SCC 230
 “It is up to the court to take stock to determine the nature of the new
& sophisticated legal devices to avoid tax & consider whether the
situation created by the devices could be related to the existing
legislation with the aid of ‘emerging’ techniques of interpretation to
expose the devices for what they really are & to refuse to give judicial
benediction.”
 (See Ramsay’s case [1981] 2 WLR 449; Burmah Oil [1982] Simon’s Tax
Cases 30 and Dawson’s case [1984] 1 All ER 530)
 In that case, the court also had occasion to refer to the following
observations of Lord Brightman in Furniss v. Dawson 
 “The fact that the court accepted that each step in a transaction
was a genuine step producing its intended legal result did not
confine the court to considering each step in isolation for the
purpose of assessing the fiscal results.”
 Avoidance of welfare legislation is as common as avoidance of
taxation & the approach in considering problems arising out of
such avoidance has necessarily to be the same.
Commissioner of Central Excise v M/S Modi Alkalies & Chemicals
Ltd, 2004 (7) SCALE 38, (2004) 7 SCC 569; S Variava, A Pasayat

Parent Co.
 FRONT CO. - An entity, used to inhibit the
identification of an owner / member of another Co. /
organization.
 In legal proceedings, it is often identified as a cover
used to conceal illegal activities.
 It can be a subsidiary / shell Co. of a larger Co.
 It is almost always used to hide another Co. /
individual from liability, scrutiny, / negative press.
(Black’s Law Dictionary)
 FACTS
 MACL is engaged in the manufacture of caustic soda of
which Hydrogen gas is a by- product
 Central Excise Authorities noticed MACL
manufactured Hydrogen gas falling U/Sub-heading
2804.90 of Sch., Central Excise Tariff Act, 1988
 MACL floated 3 Co’s - MGCPL, SCGCPL & NGCPL
–
 Located in vicinity of the factory of MACL
 Through pipelines Hydrogen gas was sent to 3 Co’s for
compressing & bottling the gas
 Object of establishing 3 Co’s - To avail benefit of
exemption given to small scale industries U/T Central
Excise Notification No. 1/93 (28.2.1993) & thereby
evade payment of central excise duty.
 FACTS
 Director General of Anti Evasion (DGAE) - To
unravel the truth searched the factory & office
premises of MACL & 3 Co’s (27.9.1996)
 Found that all 3 bottling units were located in
one single shed & were separated from each
other by small brick walls of about 4 ft. height.
 Directors of 3 Co’s were employees of either
MACL /other Modi Group of Co’s
 Co’s had common staff for maintenance of
records, & operation of the units.
 FACTS
 Main plant & machinery i.e. cylinders had been
supplied only by MACL &
Total finance was provided by MACL as
unsecured loans / had been arranged by
finance Co’s (whereabouts not even known
to Directors of the 3 front Co’s)
Product Marketing –Done – So called Dir.
of SCGCPL (Working as Dy. Manager
(Marketing) in Modi group concern & was
answerable as an employee of MACL.
 M/S Modi Alkalies & Chemicals Ltd
 Concluded that MACL had control over Hydrogen gas
even after the stage of bottling till it was sold to the
customers.
 Balance-sheets & other financial statements of 3 Co’s
revealed that whatever income they earned had gone to
MACL in the form of lease rent of cylinders.
 Noted - While front Co’s were being supplied gas by
MACL @ 0.50 per unit, the same gas was sold by 3
Co’s @ Rs.5/- per unit.
 Authorities were of the view that MACL had created 3
Co’s with the fraudulent intention to avail benefit of
exemption granted U/T Central Excise & to evade
central excise duty.
 M/S Modi Alkalies & Chemicals Ltd

Notice of Show Cause:

Why the central excise duty of should not
be recovered ? (Rs. 20,58,732 /- Rule 9(2),
52A and 173Q Central Excise Rules, 1945;
Why the land, building, plant & machinery
installed in 3 units were not to be
confiscated ? Rule 173Q
Why penalty should not be imposed on
each of them? Rule 209A
 MACL & 3 Co’s - Counter ???
 MACL - 3 Co’s were independent entities with
corporate existence & were using their own machinery.
 Loans have been returned & Cylinders lease rent - Been
paid
 Merely because MACL had taken the cylinders on lease
& had supplied to 3 Co’s, no adverse inference was to
be drawn.
 Even if common staff maintained – The Records & operated
units - Would not prove that Co’s did not exist or that MACL
was the Co. having manufacturing activities in their premises.
 3 Co’s - Replies - Denied that they were fake units or
front Co’s.
 It was pointed out that all requisites of central excise
laws were followed. - Nothing suspicious in the
transactions entered into by them with MACL.
 Commissioner of Central Excise (Adjudication), Delhi
Decision -
 Documents have been created to show existence of the
bottling Co’s, whereas in reality MACL was in full
control over the units &
 MACL was treated to have evaded duty by resorting to
under valuation.
 Directed Confiscation of - Land, building, plant &
machinery of 3 Co’s with option for redemption on
payments of fine of Rs. 20 lakhs, Rs. 7 lakhs & Rs.
50,000/- respectively.
 Penalty - Rs. 1 lakh - imposed on each of 3 Co’s &
 Rs. 50,000/- on each of the 3 employees & the Director
of the Co.
 Custom, Excise & Gold (Control) Appellate Tribunal
CEGAT
 Set aside the order of the Commissioner. It came
to hold, inter alia, that
 (1) There was no manufacture involved in the
process & therefore, question of evasion of duty
did not arise; (answered a completely new
question)
 (2) There was no inter-dependence as alleged by
the Central Excise Authorities.
 Three Co’s had independent existence & the
factual position did not indicate that they were
front Co’s as alleged by the authorities
 Supreme Court ?

 Argument Before SC
 CEGAT has committed grave error of factual position
& the applicable principles of law.
 Failed to notice that transactions were done by Co’s
with SC of Rs.200 each.
 Though the issue as to whether there was manufacture
was never agitated before the Commissioner, the
CEGAT on its own came to hold that there was no
manufacturing. The conclusion is not supportable on
facts and in law.
 M/S Modi Alkalies & Chemicals Ltd
 Two basic features which prima facie show inter-
dependence are pervasive financial control &
management control:
 Facts clearly show financial control. (SC of 3 Co’s was
Rs. 200/-)
 Though it was claimed that financial assistance was
availed from the financial Co’s, it is on record that the
unsecured loans advanced by MACL to 3 Co’s were
substantially heavy amounts.
NGCPL received Rs. 1.55 crores
(About 14 lakhs appeared to have been paid after
the issue of show cause notice)
NGCPL received - Rs.52 lakhs
SCGCPL received - Rs.65 lakhs
 Decision of the SC
 Fact: Cylinders were brought on lease by MACL from another
concern & were sub-leased
 If 3 Co’s had separate standing as contended it could not be
explained - Why they could not get the cylinders directly from
the lessors on lease basis & the need for introducing MACL as
the lessee & then 3 Co’s becoming sub-lessees.
 As noted by the Commissioner, entire receipts were paid as
lease amount to MACL (The under-valuation aspect assumes
importance)
 When the corporate veil is lifted what comes into focus
is only the shadow & not any substance about the
existence of 3 Co’s independently.
 CEGAT's judgment is indefensible
 Order of the Commissioner of CE Restored
 Jyoti Harshad Mehta and Others v Custodian, (2009) 10 SCC 564
 Aatur Holding Pvt. Ltd had entered into trading
security transactions running into crores… the real
owner of the said Co. was none other than Harshad
Mehta (Fronts of Harshad Mehta)
 Ashwin Mehta 2006 Indlaw SC 572
 Sudhir S. Mehta v Custodian, (2008) 12 SCC 84
 Harshad Shantilal Mehta v. Custodian & Ors. 1998 (3)
SCALE 556
 Richter Holding Limited v Asst Director of IT,
International Taxation, Circle-II (1), [2011] 339 ITR 199
 Connors v Connors Bros. Ltd., [1939] S.C.R. 162
Workmen of Associated Rubber Industries Ltd.
v Associated Rubber Industry Ltd.
[1986] 157 ITR 77 (SC)
 Associated Rubber INARCO Ltd. (Rs.
Industry Ltd (ARIL) Shareholder of 4,50,000/-)
Taken into account ARIL getting annual dividends
purpose of calculating the & shown in the Profit & Loss
bonus payable to the Account
workmen 1968 - Transferred to Aril
Holdings Ltd. (Aril Bhavnagar
 Workmen Raised an Ltd. )
Industrial Dispute WOS of ARIL

 Aril Holdings Ltd. WU Had no other

(1971) & Amalgamated capital except the
with ARIL shares of INARCO
Ltd.
1969 - Bonus at the rate No other business
of 4% only Dividend income
Not transferred or source of income
Instead of 16 %
 Decision
 Resort was had to the principle of lifting the veil to
prevent devices to avoid welfare legislation. It was
emphasised that regard must be had to substance & not
to the form of a transaction.
 “It is true that in law the ARIL & Aril Holdings Ltd.
were distinct legal entities having separate existence.
But, in our view, that was not an end of the matter.
 Aril Holdings Ltd. was no more than a device to avoid
payment of higher bonus to the workmen?
 “It is the duty of the court, in every case where ingenuity is
expended to avoid taxing & welfare legislations, to get behind
the smoke-screen & discover the true state of affairs. The court
is not to be satisfied with form & leave well alone the substance
of a transaction.”
Workmen of Associated Rubber Industries Ltd. Case

 Welfare legislation
 “An obvious purpose that is served & which
stares one in the face is to reduce the amount to
be paid by way of bonus to workmen. It is such
an obvious device that no further evidence,
direct or circumstantial, is necessary.”
 Referred:
 CIT, Madras v Sri Meenakshi Mills Ltd. & Ors;
 Apthorpe v Peter Schoenhofen Brewing Co. 4 T.C. 41;
 Fire stone Tyre and Rubber Co. v Llewellin (1957) 1
W.L.R. 464
 Balwant Rai Saluja & another v Air India Ltd. & others,
2014 Indlaw SC 556, (2014) 9 SCC 407
H.L. Dattu, Arun Mishra, R. K. Agrawal

 Whether the workmen engaged in statutory

canteens, through a contractor, could be treated
as employees of the principal establishment?
 Piercing the veil of incorporation - Mere
ownership & control is not a sufficient ground -
It should be established that the control &
impropriety by the Air India resulted in
depriving the workmen herein of their legal
rights.
 Perusal of MOA & AOA of HCI, it cannot be
said that Air India intended to create HCI as a
mere façade for the purpose of avoiding liability
towards the workmen
 Workmen could not be said to be under the
effective and absolute control of Air India. The
Air India merely has control of supervision over
the working of the given statutory canteen
Firestone Tyre and Rubber Co. Ltd. v
Lewellin (Inspector of Taxes) CA,
[1956] 1 W.L.R. 352
Firestone Tyre and Rubber Co. Ltd. v
Lewellin (Inspector of Taxes) HL,
[1957] 1 W.L.R. 464
 Assessed to income tax on
 Profits of its business of branded tyre manufacturers
within UK
 Profits of the trade of marketing the branded tyres
carried on with customers on the continent of Europe.
 This additional assessment was made on the
footing that
Brentford was itself carrying on that trade or,
Alternatively, A Foreign NR – Co. “Akron” (owned
all the shares in Brentford) was
(a) Itself carrying on the trade within UK of
selling the tyres outside UK or
(b) Was carrying on that trade through the
agency of Brentford.
 Income Tax Act, 1918
 “Tax under this Schedule shall be charged in respect of
 (a) The annual profits or gains arising or accruing - …
 (iii) to any person, whether a British subject or not,
although not resident in the UK, … from any trade,
profession, employment, or vocation exercised within
the UK; …”
 General Rule 5 provides:
 “A person not resident in the UK, whether a British subject or
not, shall be assessable & chargeable in the name of … any
factor, agent, receiver, branch, or manager, whether such factor,
agent, receiver, branch, or manager has the receipt of the profits
or gains or not, in like manner & to the like amount as such NR
person would be assessed & charged if he were resident in the
UK & in the actual receipt of such profits or gains.”
 General Rule 10 provides:
 “Nothing in these rules shall render a NR
person chargeable in the name of a broker or
general commission agent, or in the name of an
agent not being an authorised person carrying
on the regular agency of the NR person or a
person chargeable as if he were an agent in
pursuance of these rules, in respect of profits or
gains arising from sales or transactions carried
out through such a broker or agent.”
 Indowind Energy Ltd v Wescare (I) Ltd
AIR 2010 SC 1793
 “…Not in dispute that Subuthi & Indowind are
two independent Co’s… Each Co. is a separate
& distinct legal entity &
 Mere fact that two Co’s have common SH’s or
common BOD, will not make the two Co’s a
single entity.
 Nor will existence of common SH’s or Directors
lead to an inference that one Co. will be bound
by the acts of the other.
 Firestone Tyre &
Rubber Co. Ltd. Exported to customers outside the UK
(Brentford)
(Tyre & rubber Persons approved by Akron as
manufacturers, Middlesex) ‘distributors’

Akron, Ohio, USA

Account to Akron for the
Akron granted Aktiebolaget A. proceeds of the sales less the cost
of the goods sold plus 5 per cent.
Wiklunds Maskin &
Velocipedfabrik (Swedish
distributor) –
Exclusive right to sell
Firestone tyres & accessories in
Sweden