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The principle of piercing the corporate veil

The principle of piercing the corporate veil

By Claude D Zacharias

Translated by James Hurst (Authorised Translator), ELT - English Law Translations

The point of departure for the principle of piercing the corporate veil [Sw. ansvarsgenombrott] is that a shareholder normally does not have any personal liability to pay for the obligations of a limited company (cf. Chapter 1, Section 3 of the Swedish Companies Act). This provision is worded as follows:

The shareholders of a limited company shall bear no personal liability for the company's obligations.
Chapter 25, Section 19 contains provisions regarding the personal liability of shareholders in connection with a liquidation obligation due to capital deficiency.

1. Case-law

1.1 Piercing the corporate veil does not occur very often in Swedish law. The legal cases generally referred to in this context are NJA[1] 1947, p. 647 and NJA 1942, p. 473. (Cf. also NJA 1975, p. 45, NJA1982, p. 244 and NJA 1992, p. 375). However, the principle does exist and has also been applied within environmental law in recent years (Cf. Svea Court of Appeal, Land and Environmental Court of Appeal judgment of 26 June 2013, Case no. M 11429-12).

2. Svea Court of Appeal's judgment of 20 March 2014, Case no. T 3030-13

2.1 Svea Court of Appeal applied the principle in a judgment of 20 March 2014 in Case no. T 3030-13, a case involving liability for litigation costs incurred. The background here was that the owners of a company that had been put into bankruptcy formed another limited company ('the Litigation Company') through which an action for damages was instituted against an accountancy firm ('R'). The grounds for the action were careless tax advice that had resulted in the above-mentioned bankruptcy. The Litigation Company had a share capital of SEK 100,000 and the only activity that the Litigation Company pursued was the legal proceedings against R. The Litigation Company's share capital had been eroded, completely or in part, at regular intervals when the costs of representation were to be settled, at which time funds were injected through the agency of the owners. The action was lost and the Litigation Company then put into bankruptcy as the litigation costs could not be paid.

2.2 R instituted proceedings against the owners, claiming that they should be deemed to have a personal liability for the litigation costs. The circumstances in support of the action were, among other things, that R had involuntarily been forced into expensive litigation and compelled to engage in these proceedings with a counterparty that did not have adequate capital resources and which had intentionally made itself insolvent to avoid any liability for R's litigation costs. R claimed that the owners exercised control over the company and that the company had no employees. The courts considered that the principle of piercing the corporate veil was applicable and a personal liability to pay was imposed on the owners.

3. Circumstances in support of piercing the corporate veil

3.1 The District Court stated in its judgment, which was supported in material respects by the Court of Appeal, that the principle:

[…] of piercing the corporate veil should be applied very restrictively and may only come into question in such cases where the owners have in a reprehensible way used this type of company to minimise their own obligation to pay compensation and where the company was furnished with wholly inadequate capital resources (see Johansson et. al., Aktiebolagslagen [Swedish Companies Act], l January 2012, Zeteo, comments on Chapter l, Section 3). Circumstances that may justify piercing the corporate veil are that the company had no independent commercial purpose, had no independent management and that it had been undercapitalised in relation to its activities (see NJA 1947, p. 647, RH[2] 2011:24 and Rodhe in Commemorative Volume for Jan Hellner 1984, p. 4810).

3.2 The courts found that the sole purpose of the Litigation Company was to pursue the proceedings, that it had no independent commercial purpose or independent management, that it was undercapitalised, and that the owners had a significant personal financial interest in pursuing the proceedings. The District Court also attributed importance to the Litigation Company having consumed more than half of its share capital on two occasions, which as such entailed a breach of the capital adequacy rules contained in the Swedish Companies Act, the purpose of which is to protect the company's creditors.

3.3 The consequence of this arrangement was that R could not avoid the proceedings and was obliged to assume the risk for these proceedings, a risk that was indeed great, while the owners themselves do not appear to have assumed any risk at all. The District Court stated with reference to this that the arrangement was deemed to be:

[…] such an improper procedure which has no justification in the interest of the general public commerce. If such practices were to be acceptable, there is a risk that the confidence of creditors in limited companies as a counterparty will be undermined, which in its turn would mean that the limited company form would lose its utility and appeal in the world of business. The preconditions therefore apply to set aside the rules of the Swedish Companies Act concerning protection from a personal liability to pay.

3.4 As the owners were considered to have control over the Litigation Company, a personal liability to pay was imposed on them.

4. Concluding comments

4.1 This ruling shows that there are some limitations regarding the scope of Chapter 1, Section 3 of the Swedish Companies Act. To the extent that proceedings are deemed to be sufficiently unfair, the border between the legal person and the underlying owner (who may be either a legal or natural person) may be broken through. This is more common within Anglo-American law where the principle is also known as ‘lifting the corporate veil’. The factors that may result in the corporate veil being pierced primarily appear to involve the purpose of the operation, whether the company is undercapitalised and its independence in relation to its owners.

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[1] Nytt Juridiskt Arkiv - a renowned Swedish law report series.

[2] Rättsfall från hovrätterna [Court of Appeal Cases] - a renowned Swedish law report series

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