Friday, April 11, 2014

The doctrine of piercing the veil of corporate fiction: When validly applied.

While the law allows us to reap the benefits of doing business as a corporation, the corporation must exist for a legitimate purpose and operation, other than the purpose of simply avoiding paying what would otherwise be proper taxes due it.
In the case discussed below Norton and Harrison Company was made liable for taxes it claimed were due to Jackbilt, another corporation all of whose stocks Norton and Harrison purchased during the period subject of assessment. In so holding, the Court explained:

It has been settled that the ownership of all the stocks of a corporation by another corporation does not necessarily breed an identity of corporate interest between the two companies and be considered as a sufficient ground for disregarding the distinct personalities (Liddell & Co., Inc. v. Coll. of Int. Rev. L-9687, June 30, 1961).
However, in the case at bar, we find sufficient grounds to support the theory that the separate identities of the two companies should be disregarded. Among these circumstances, which we find not successfully refuted by appellee Norton are:
(a) Norton and Harrison owned all the outstanding stocks of Jackbilt; of the 15,000 authorized shares of Jackbilt on March 31, 1958, 14,993 shares belonged to Norton and Harrison and one each to seven others;
 (b) Norton constituted Jackbilt's board of directors in such a way as to enable it to actually direct and manage the other's affairs by making the same officers of the board for both companies. For instance, James E. Norton is the President, Treasurer, Director and Stockholder of Norton. He also occupies the same positions in Jackbilt corporation, the only change being, in the Jackbilt, he is merely a nominal stockholder. The same is true with Mr. Jordan, F. M. Domingo, Mr. Mantaring, Gilbert Golden and Gerardo Garcia, while they are merely employees of the North they are Directors and nominal stockholders of the Jackbilt;
(c) Norton financed the operations of the Jackbilt, and this is shown by the fact that the loans obtained from the RFC and Bank of America were used in the expansion program of Jackbilt, to pay advances for the purchase of equipment, materials rations and salaries of employees of Jackbilt and other sundry expenses. There was no limit to the advances given to Jackbilt so much so that as of May 31, 1956, the unpaid advances amounted to P757,652.45, which were not paid in cash by Jackbilt, but was offset by shares of stock issued to Norton, the absolute and sole owner of Jackbilt;
(d) Norton treats Jackbilt employees as its own. Evidence shows that Norton paid the salaries of Jackbilt employees and gave the same privileges as Norton employees, an indication that Jackbilt employees were also Norton's employees. Furthermore service rendered in any one of the two companies were taken into account for purposes of promotion;
(e) Compensation given to board members of Jackbilt, indicate that Jackbilt is merely a department of Norton.
The income tax return of Norton for 1954 shows that as President and Treasurer of Norton and Jackbilt, he received from Norton P56,929.95, but received from Jackbilt the measly amount of P150.00, a circumstance which points out that remuneration of purported officials of Jackbilt are deemed included in the salaries they received from Norton.
The same is true in the case of Eduardo Garcia, an employee of Norton but a member of the Board of Jackbilt. His Income tax return for 1956 reveals that he received from Norton in salaries and bonuses P4,220.00, but received from Jackbilt, by way of entertainment, representation, travelling and transportation allowances P3,000.00. However, in the withholding statement (Exh. 28-A), it was shown that the total of P4,200.00 and P3,000.00 (P7,220.00) was received by Garcia from Norton, thus portraying the oneness of the two companies.
The Income Tax Returns of Albert Golden and Dioscoro Ramos both employees of Norton but board members of Jackbilt, also disclose the game method of payment of compensation and allowances. The offices of Norton and Jackbilt are located in the same compound. Payments were effected by Norton of accounts for Jackbilt and vice versa. Payments were also made to Norton of accounts due or payable to Jackbilt and vice versa.
Norton and Harrison, while not denying the presence of the set up stated above, tried to explain that the control over the affairs of Jackbilt was not made in order to evade payment of taxes; that the loans obtained by it which were given to Jackbilt, were necessary for the expansion of its business in the manufacture of concrete blocks, which would ultimately benefit both corporations; that the transactions and practices just mentioned, are not unusual and extraordinary, but pursued in the regular course of business and trade; that there could be no confusion in the present set up of the two corporations, because they have separate Boards, their cash assets are entirely and strictly separate; cashiers and official receipts and bank accounts are distinct and different; they have separate income tax returns, separate balance sheets and profit and loss statements.
These explanations notwithstanding an over-all appraisal of the circumstances presented by the facts of the case, yields to the conclusion that the Jackbilt is merely an adjunct, business conduit or alter ego, of Norton and Harrison and that the fiction of corporate entities, separate and distinct from each, should be disregarded. This is a case where the doctrine of piercing the veil of corporate fiction, should be made to apply. In the case of Liddell & Co. Inc. v. Coll. of Int. Rev., supra, it was held:
There are quite a series of conspicuous circumstances that militates against the separate and distinct personality of Liddell Motors Inc., from Liddell & Co. We notice that the bulk of the business of Liddell & Co. was channel Red through Liddell Motors, Inc. On the other hand, Liddell Motors Inc. pursued no activities except to secure cars, trucks, and spare parts from Liddell & Co., Inc. and then sell them to the general public. These sales of vehicles by Liddell & Co, to Liddell Motors. Inc. for the most part were shown to have taken place on the same day that Liddell Motors, Inc. sold such vehicles to the public. We may even say that the cars and trucks merely touched the hands of Liddell Motors, Inc. as a matter of formality.
x x x
Accordingly, the mere fact that Liddell & Co. and Liddell Motors, Inc. are corporations owned and controlled by Frank Liddell directly or indirectly is not by itself sufficient to justify the disregard of the separate corporate identity of one from the other. There is however, in this instant case, a peculiar sequence of the organization and activities of Liddell Motors, Inc.
As opined in the case of Gregory v. Helvering "the legal right of a tax payer to decrease the amount of what otherwise would be his taxes, or altogether avoid them, by means which the law permits, cannot be doubted". But as held in another case, "where a corporation is a dummy, is unreal or a sham and serves no business purpose and is intended only as a blind, the corporate form may be ignored for the law cannot countenance a form that is bald and a mischievous fictions".
... a taxpayer may gain advantage of doing business thru a corporation if he pleases, but the revenue officers in proper cases, may disregard the separate corporate entity where it serves but as a shield for tax evasion and treat the person who actually may take benefits of the transactions as the person accordingly taxable.
... to allow a taxpayer to deny tax liability on the ground that the sales were made through another and distinct corporation when it is proved that the latter is virtually owned by the former or that they are practically one and the same is to sanction a circumvention of our tax laws. (and cases cited therein.)
In the case of Yutivo Sons Hardware Co. v. Court of Tax Appeals, L-13203, Jan. 28, 1961, this Court made a similar ruling where the circumstances of unity of corporate identities have been shown and which are identical to those obtaining in the case under consideration. Therein, this Court said:
We are, however, inclined to agree with the court below that SM was actually owned and controlled by petitioner as to make it a mere subsidiary or branch of the latter created for the purpose of selling the vehicles at retail (here concrete blocks) ... .
It may not be amiss to state in this connection, the advantages to Norton in maintaining a semblance of separate entities. If the income of Norton should be considered separate from the income of Jackbilt, then each would declare such earning separately for income tax purposes and thus pay lesser income tax. The combined taxable Norton-Jackbilt income would subject Norton to a higher tax. Based upon the 1954-1955 income tax return of Norton and Jackbilt (Exhs. 7 & 8), and assuming that both of them are operating on the same fiscal basis and their returns are accurate, we would have the following result: Jackbilt declared a taxable net income of P161,202.31 in which the income tax due was computed at P37,137.00 (Exh. 8); whereas Norton declared as taxable, a net income of P120,101.59, on which the income tax due was computed at P25,628.00. The total of these liabilities is P50,764.84. On the other hand, if the net taxable earnings of both corporations are combined, during the same taxable year, the tax due on their total which is P281,303.90 would be P70,764.00. So that, even on the question of income tax alone, it would be to the advantages of Norton that the corporations should be regarded as separate entities.
CIR vs. Norton and Harrison Company
Read the case here.

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