Lifting the veil off fraudsters

Fitness

Q: I know a man who took money from the public to finance his company and promised to repay. He didn’t repay and now his excuse is that the company does not have money despite the fact that he has bought a huge house and drives fancy cars. It is obvious he used the money for this purpose. Can his property be attached to offset the debts he owes people?

A: A company comes into existence after it is incorporated under the Companies Act, Chapter 486 of the Laws of Kenya. Once incorporated, it is recognised in law as an independent legal entity, normally referred to as a body corporate. This means it is treated as a separate ‘person’ from its directors and shareholders and can, therefore, hold property, enter contracts, sue and be sued.

Every company has certain basic elements among them a name, which has been reserved by the Registrar of Companies, at least two shareholders and two directors, a registered office where records are kept and an address for service of legal documents. The purpose for incorporation, be it construction or money-lending, must be defined in the company’s Memorandum and Articles of Association, otherwise the directors will be deemed to be acting ultra vires if they engage in other activities in the name of the company.

Company obligations

Conned investors show their receipts outside the office of a collapsed pyramid scheme to demand their money. Courts can lift the veil of incorporation so that the property of such company directors is sold to pay clients. Photo: Maxwell Agwanda/ Standard

Although it is common to speak of a limited liability company, the company is liable for all obligations that it incurs. It is the liability of the shareholders that is limited, meaning that they are only liable for any unpaid money owing on their shares and subject to any personal guarantee given.

This is arguably the most important motivation in forming a company as a business organisation and also explains why it is possible to find wealthy shareholders of a company that has no money to pay its debts. Pyramid schemes or similar outfits — most of which are limited liability companies ring a bell.

But does the above scenario mean it is possible for individuals to incorporate companies, borrow money from banks or individuals to invest in the company and after diverting it to their pockets claim the company cannot pay and even allow it to be wound up?

There is a major exception to the general concept of limited liability. In certain circumstances, courts lift the veil of incorporation, otherwise known as piercing the veil and hold the shareholders of the company directly and personally liable for its obligations.

What courts consider

Although a separate legal entity, a company can only act through human agents that compose it. The veil doctrine is invoked when shareholders blur the distinction between the company and themselves. The courts have recognised a number of factors that would prompt them to lift the veil of incorporation. The most outstanding are fraud — where the owners of a company merely use it to evade either fiduciary or legal obligations; agency — where the company is being used merely as an agent for its members; unfairness — where it is deduced that by piercing the veil the result would bring justice and fairness to the parties involved, among others.

To answer the question, I would suggest that the claimant brings a claim under the veil doctrine with proof that the company was merely being used to defraud the public and the owners’ personal property may, therefore, be attached to satisfy the debts.

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