Piercing the Corporate Veil Employer Employee Relationship

Legal Forum

Deepak Dahiya understands the concept of piercing of corporate veil through a recent case decided by the Supreme Court

The overall operations of a company are run by its directors or shareholders. There are cases wherein such directors or shareholders create multiple entities to shield fraudulent activities and/or bypass binding legal compliances/obligations. In order to identify such fraudulent activities and the true intention behind incorporation of multiple entities, the concept of piercing of corporate veil emerged. The House of Lords in the earliest case on this subject, i.e. Salomon vs. Salomon, discussed the concept of piercing the corporate veil by affirming the separate legal personality of the company from a shareholder. It is ironical that the phrase ‘piercing the corporate veil’ has not been mentioned in any legislation, and therefore, we base our understanding of the same on court precedents.

Courts have often found it just and right to pierce the corporate veil when multiple companies are formed to circumvent the statutory obligation of a company to employ workers on a permanent basis. To achieve such an objective, companies adopt a structure whereby they enter into a service agreement (or other similar arrangement) with a contractor company to receive certain services, such as canteen, security, etc.

Important Questions

In the recent case ('Case') of Balwant Rai Saluja, the Supreme Court of India (‘Court’) considered a number of important questions relating to piercing the corporate veil. The question in this case was whether workers in a statutory canteen maintained at Air India’s premises were to be treated as employees of Air India or as employees of the contractor running the canteen. The contractor, HCL, was a wholly owned subsidiary of Air India. The workers made two arguments. First, that the fact that Air India was required by statute (the Factories Act, 1948) to run a canteen meant that those working in it were ‘deemed employees’; and secondly, on the assumption that they were in fact employees of HCL, it was appropriate to lift the corporate veil because HCL was a ‘sham’ company entirely controlled by Air India. The Supreme Court rejected both these contentions.

The question whether X is an employee of Y can arise in a number of contexts: taxation (is X’s income salary or income from business), labour law (is X entitled to raise an industrial dispute), vicarious liability (is Y liable for X’s wrongful acts) and so on. The Court held that there need not be a uniform answer to the above questions. The fact that X is an ‘employee’ for tax purposes does not (of itself) mean that Y is vicariously liable for an offence committed by X. It was recognised in the Case that workers at a facility which the employer is obliged to maintain are treated as employees under the Factories Act, does not mean they are employees generally. Where, however, there is no special statutory context of this kind, the courts normally ask whether the contract entered into by the worker is a contract of service or a contract for services. The immediate next question is how to distinguish between a contract of service and a contract for services? In English law, the question is answered through the ‘control’ test, which was previously thought to be decisive.

Importantly, the Court, while deciding the Case, observed that the workers engaged by a contractor to work in the canteen of a facility would be the workers of the said facility, but only for the purposes of the Factories Act, 1948 and not for other purposes. Further, for the said workers to be called the employees of the facility for all purposes they would need to satisfy the test of employer-employee relationship and it must be shown that the employer exercises absolute and effective control over the said workers. The Court further held that the appellants would be workmen of Air India, but only for the purposes of the Factories Act, and solely by virtue of this deemed status under the Factories Act, the said workers would not be able to claim regularisation in their employment from Air India.

The corollary arrived at through this Case is that when two entities have entered into a service agreement whereby one entity (‘Contractor’) has services of its employees at the facility of another entity (‘Principal Employer’), then simply because both entities have same directors or shareholders (revealed by piercing the corporate veil) will not be the decisive factor to establish employer-employee relationship between the Principal Employer and employees of the Contractor.

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Deepak Dahiya

Deepak Dahiya is a corporate lawyer and managing partner of law firm, Legal Imperials. Queries on the observation may be sent to info@legalimperials.com.

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