Independence of corporate personality and limited liability of shareholders are cornerstones of the modern corporate system, with the doctrine of corporate veil piercing protecting the interests of company creditors.
The old Company Law previously established the principle of vertical corporate veil piercing, holding that any shareholder abusing the company’s independent legal status and limited liability to evade debts – seriously damaging creditor interests – should bear liability for corporate debts.
The newly amended Company Law now stipulates that when a shareholder commits such acts by using two or more companies under its control, “each company shall be jointly and severally liable for the debts of any of the companies”.
This new provision legally establishes horizontal corporate veil piercing and is recognised as a major highlight of the updated law.
Controlling entity
In the amended law, the controlling entity is referred to as “shareholder”. However, in line with strengthening the liability of the company’s actual controller and controlling shareholder, the controlling entity should also encompass the actual controller.
Non-equity Partner
Zhong Lun Law Firm
In the recovery rights dispute Gan 0902 Min Chu No. 4069 (2024), the People’s Court of Yuanzhou district in Yichun city applied horizontal corporate veil piercing by determining that the actual controller’s use of funds and equipment in company A – which was under his control to register company B to prevent the bankruptcy of company A – had seriously damaged the interests of company A’s creditors.
As a result, company B and the actual controller were held to bear joint and several liability for the debts of company A.
Key legal references to horizontal corporate veil piercing – namely, Sichuan Tailai v China Cinda Asset Management (2008); Xuzhou Construction Machinery Group v Chengdu Chuanjiao Industry and Trade; and the Minutes of the National Courts Civil and Commercial Trial Work Conference – have never limited the controlling entity to shareholders. Instead, they encompass situations where the actual controller abused control.
For instance, article 11 of the above-mentioned minutes stipulates: “If a controlling shareholder or actual controller controls more than one subsidiary or affiliate and abuses its control to cause the subsidiaries or affiliates to have blurred property boundaries and financial confusion, transfer interests between them, be deprived of separate personality, degenerate into tools for the controlling shareholder to evade debts, operate illegally, and even violate the law and commit crimes, the legal personality of the subsidiaries or affiliates may be disregarded, taking into account the facts of the case so as to order joint and several liability to be assumed.”
Judge Liu Guixiang also pointed out: “Here [in the amended Company Law], not stipulating the abuse of control by the actual controller is not necessarily intentional, and an expansive interpretation can be considered.”
Subsequent revisions of judicial interpretation of the Company Law are worth paying attention to.
Determining criteria
Paralegal
Zhong Lun Law Firm
The regulations on horizontal corporate veil piercing in the amended Company Law are highly concise. Since the amendment was implemented, judicial practice still shows a clear tendency to apply the criteria of “confusion of personalities” and “excessive dominance and control”, as stipulated in the minutes.
In the partnership contract dispute of Xia & Qian v Auchan, Yaxuan Foods et al (2024), the Songjiang District People’s Court of Shanghai not only found there was cross-appointment of personnel and confusion of corporate personalities due to the duration of the partnership. The two companies also shared identical shareholders, legal representatives and supervisors for communicating with the plaintiffs during the change of the co-operative entity.
Additionally, the two companies shared identical business operations, collaborated with the plaintiff under the same model, operated from the same premises, and simultaneously sold their products at the same counters during the transition of co-operative entities, indicating a confusion of business activities.
Finally, during their co-operation with the plaintiff, payments were all made through the bank accounts of one of the companies and Cao, its actual controller. As for the nature of the payments made, none of the three defendants could distinguish or provide any evidence of independent accounting.
Besides, during the court hearing, the three defendants stated that Cao, as the actual controller, confirmed the accounts and signed the agreements for both companies. Therefore there was even a confusion of finance.
Based on all of this, the court determined the existence of confusion of corporate personalities between the two companies, and that one company should bear liability for the other’s debts.
Creditor proof
As an external party to the debtor group, the difficulty for creditors in applying the corporate veil-piercing doctrine often lies in the collection and organisation of evidence.
In judicial practice, except for a one-man company, courts usually hold that creditors should bear the primary burden of proving that shareholders have abused a company’s independent legal status and limited liability of shareholders.
If the actual controller, controlling shareholder or defendant company cannot provide counter-evidence proving no confusion of shareholders, the company’s corporate personality may be disregarded.
Apply with caution
Confusion of corporate personalities among different entities in the debtor’s group is often not limited to a single scenario. Horizontal and vertical confusions may exist concurrently.
There may even be cases where the controlling shareholder has no assets, while the subsidiary holds quality assets, obliging the creditor to pursue reverse corporate veil piercing, claiming the subsidiary should be liable for the parent company’s debts.
In practice, there have already been cases supporting reverse veil piercing. However, as the Second Civil Trial Division of the Supreme People’s Court has pointed out, reverse corporate veil piercing overturns the foundation of limited liability of companies, so it should be applied cautiously.
Nevertheless, by significantly enhancing the protection of creditor interests and litigation strategy options, the amended Company Law now provides a clearer legal basis for horizontal corporate veil piercing, and is expected to be further promoted.
Jiang Xuan is a non-equity partner and Li Jiaxun is a paralegal at Zhong Lun Law Firm
Zhong Lun Law Firm
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Beijing 100020, China
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E-mail: jiangxuan@zhonglun.com
lijiaxun@zhonglun.com
