Doctrine of Piercing the Corporate Veil | General Principles | Corporations | BUSINESS ORGANIZATIONS

Doctrine of Piercing the Corporate Veil in the Philippines

The Doctrine of Piercing the Corporate Veil is a legal principle used by courts to disregard the separate legal personality of a corporation, holding the individuals behind the corporation liable for its actions or obligations. Normally, a corporation is treated as a separate entity, distinct from its shareholders, directors, or officers. This principle is enshrined in Section 2 of the Revised Corporation Code of the Philippines (R.A. No. 11232), which recognizes that a corporation, upon incorporation, acquires a juridical personality separate and distinct from the individuals who compose it.

However, under certain circumstances, this legal distinction may be disregarded. The court applies the Doctrine of Piercing the Corporate Veil to prevent the misuse of the corporate form to commit fraud, circumvent the law, or evade obligations. Below is a detailed examination of the doctrine as applied in Philippine law:

1. General Principles

The Doctrine of Piercing the Corporate Veil does not impair the general rule that a corporation has a distinct legal personality. The doctrine is applied cautiously and sparingly, in exceptional cases where the corporate personality is being used to defeat public convenience, justify a wrong, protect fraud, or defend crime.

When the veil is pierced, the acts and liabilities of a corporation are treated as those of its incorporators, officers, or directors, who are then personally liable for the corporation's obligations. The purpose of piercing the corporate veil is to prevent fraud or injustice.

2. When is the Doctrine Applied?

In Philippine jurisprudence, the courts will apply the Doctrine of Piercing the Corporate Veil in the following circumstances:

a. To Defeat Fraud

The doctrine is invoked when the corporate fiction is used as a shield for fraudulent or dishonest activities. A corporation's separate legal personality cannot be used to perpetuate fraud or mislead creditors. If it is proven that the corporation was formed or is being operated in bad faith, the courts will disregard its separate personality.

For example, in Francisco Motors Corporation v. CA (G.R. No. 100812, June 25, 1999), the Supreme Court pierced the corporate veil when a corporation was used to defraud creditors.

b. To Circumvent the Law

Courts will pierce the corporate veil when the corporate entity is used to evade legal obligations or liabilities, such as in situations where corporations are deliberately undercapitalized to avoid meeting legal obligations.

c. To Achieve Equity

In some cases, piercing the corporate veil is necessary to prevent injustice or unfairness. This can occur when a corporate entity is used to abuse its corporate shield, resulting in unjust outcomes for other parties.

In Santos v. NLRC (G.R. No. 115795, September 25, 1998), the Supreme Court ruled that the corporate veil can be pierced when necessary to prevent the injustice of hiding behind the corporation's separate personality.

d. To Prevent Evasion of Existing Obligations

If the corporation is used as a mere conduit to avoid an already existing obligation, courts may pierce the corporate veil. For example, when a corporation is created solely for the purpose of evading liability from creditors or other parties.

3. Tests for Piercing the Corporate Veil

The Philippine Supreme Court has articulated various tests for determining when the Doctrine of Piercing the Corporate Veil should apply:

a. Instrumentality or Alter-Ego Test

This test applies when the corporation is so controlled by another person or entity that it becomes a mere instrumentality, conduit, or alter ego of that person or entity. The controlling party exercises such control over the corporation that the corporation has no separate will of its own.

In Cebu Shipyard and Engineering Works, Inc. v. William Lines, Inc. (G.R. No. 132607, May 5, 1999), the Court applied this test, finding that the corporation was a mere instrumentality of its principal stockholder.

b. Fraud Test

The fraud test is used when the corporate entity is being used to perpetrate fraud or commit wrongful acts against third parties. This was seen in McLeod v. NLRC (G.R. No. 90535, August 29, 1991), where the Court held that corporate officers could not use the corporate entity as a means to perpetrate injustice.

c. Equity Test

This test focuses on the need to prevent injustice or inequitable outcomes. Courts will pierce the veil when the corporate entity is being used in a way that frustrates justice and equitable principles.

4. Elements for Application of the Doctrine

For a court to apply the Doctrine of Piercing the Corporate Veil, certain elements must be proven:

1. Control by the Shareholders or Directors: The corporation must be under the control or domination of a person or entity who misuses the corporate form.
2. Wrongful Conduct: The controlling person or entity must have engaged in wrongful conduct, fraud, or used the corporate fiction to evade obligations.
3. Injury or Unjust Loss: There must be a causal connection between the wrongful conduct and the injury suffered by the aggrieved party.

5. Case Law on Piercing the Corporate Veil

Several landmark cases illustrate how Philippine courts apply the Doctrine of Piercing the Corporate Veil:

a. Velarde v. Lopez, Inc. (G.R. No. 153886, January 14, 2004)

In this case, the Supreme Court pierced the corporate veil of a corporation to hold the individuals behind it liable for using the corporation to avoid legal obligations. The Court emphasized that the doctrine should only be applied in exceptional cases where the corporate fiction is being used as a vehicle for fraud or to defeat public convenience.

b. Traders Royal Bank v. Court of Appeals (G.R. No. 129552, December 1, 1997)

The Court held that piercing the corporate veil was justified where a corporation was used as a vehicle to evade payment of taxes or to avoid compliance with statutory obligations.

c. Reynoso, Jr. v. Court of Appeals (G.R. No. 116124, March 7, 2000)

Here, the Court pierced the corporate veil to hold the officers of the corporation personally liable for a tort committed by the corporation, finding that the corporate entity was merely a shield for personal wrongdoing.

6. Application in Taxation

In the context of taxation, the Doctrine of Piercing the Corporate Veil is used to prevent tax evasion. The Bureau of Internal Revenue (BIR) and the courts may disregard the corporate personality if the corporation is found to be an instrumentality to avoid paying taxes. For instance, if a corporation is established merely to reduce tax liability without a legitimate business purpose, the BIR may pierce the corporate veil to impose liability directly on the individuals behind the corporation.

7. Exceptions and Limitations

The doctrine is not applied lightly, and courts generally adhere to the principle that a corporation’s legal personality should be respected. The following are limitations to the doctrine:

• It cannot be applied to merely impose greater liability on corporate officers for business losses or legitimate business failure.
• The doctrine is inapplicable where there is no evidence of fraud or improper use of the corporate entity.

Conclusion

The Doctrine of Piercing the Corporate Veil serves as an important tool in Philippine law to ensure that corporations are not misused to perpetrate fraud, evade legal obligations, or frustrate justice. However, it is a remedy of last resort and is applied only in exceptional circumstances when the corporate fiction is abused. Courts use various tests such as the instrumentality or alter-ego test, the fraud test, and the equity test to determine when to pierce the corporate veil.