Rock solid foundations

Is it possible, in principle, to pierce the veil of a Jersey or Guernsey foundation? It’s an important question. The Channel Islands’ regulatory authorities and judiciary do not countenance their financial services products being used as repositories for fraud proceeds or devices for avoiding liability. The issue was central to and would have been decided in the recent Jersey case of Dalemont Limited v Senatorov, which settled at trial.

Foundations originated as devices for charitable benefaction and wealth planning in civilian legal systems. Civil law does not recognise the distinction between legal title and beneficial interest, which underlies the common law vehicle, the trust.

Rather, like a company, a foundation has its own legal personality, and owns its assets absolutely.

A founder gifts assets from their patrimony to the foundation. Their intentions for those assets (whether to benefit them and/or other individuals and/or purposes) are encapsulated in the constitution documents of the foundation and then given effect to by its council.

But foundations have no shareholders and no capital. They are orphan structures and as such are used in corporate structuring (for example, to hold the shares in special purpose vehicles taking loans) and to hold private wealth, often owning shares in private trust companies.

Recently, they have been imported into the offshore common law world by statute: in the Channel Islands, by the Foundations (Jersey) Law 2009 and the Foundations (Guernsey) Law 2012. Jersey and Guernsey foundations come into being by virtue of their incorporation under these laws.

Legal personality

It is fundamental that a company has a separate and distinct legal personality with its own rights and liabilities. The existence and scope of piercing the corporate veil, delimiting that principle, was considered by the UK Supreme Court in VTB Capital plc v Nutritek International Corp and Prest v Petrodel Resources Ltd.

In VTB, Lord Neuberger was skeptical while in Prest, the doctrine came very close to extinction. Lord Sumption conceded, and Lord Neuberger charily agreed that, only as a remedy of last resort: “… there is a limited principle of English law which applies when a person is under an existing legal obligation or liability or subject to an existing legal restriction which he deliberately evades or whose enforcement he deliberately frustrates by interposing a company under his control.

“The court may then pierce the corporate veil for the purpose, and only for the purpose, of depriving the company or its controller of the advantage that they would otherwise have obtained by the company’s separate legal personality...[It is] limited… because in almost every case where the test is satisfied, the facts will… disclose a legal relationship between the company and its controller which will make it unnecessary to pierce the corporate veil.”

As Lord Neuberger pointed out in VTB: “Clarke J in The Tjaskemolen… rightly said that “the cases have not worked out what is meant by ‘piercing the corporate veil’. It may not always mean the same thing.” He cited Staughton LJ in Atlas Maritime Co SA v Avalon Maritime Ltd (No 1)…: “piercing the veil…is reserved for treating the rights or liabilities or activities of a company as the rights or liabilities or activities of its shareholders.” But he ultimately held not so as to make a shareholder liable on a company contract.

In Prest, Lord Sumption described it as “…disregarding the separate personality of the company…. where a person who owns and controls a company is said… to be identified with it in law by virtue of that ownership and control”.

Post-Prest

A foundation is like a company: it is given life and is bestowed its corporate veil by the act of incorporation. The enabling legislation does not prevent that veil being attacked.

So you can pierce the veil of a company under Jersey and Guernsey law. Although the basis for doing so has not been reconsidered since Prest, the scope of the doctrine (which is originally English) is likely to be regarded as having been thereby redefined. Therefore, the question is only whether a founder may cause a foundation to be incorporated to receive their assets to evade their liabilities or frustrate their enforcement – you only need to state the question to see what the answer should be. All the policy reasons that justify piercing the company veil pertain to foundations equally.

The doctrine applies to a company under the effective control of its owner. It is possible to give a founder effective control of a foundation. In Jersey, a foundation needs at least one council member and a guardian, but the founder could be both guardian and council member, although there must always be one council member who is a regulated entity.

The abusive founder will only be curtailed by the one regulated council member who, you may assume, would not be suborned. But if the council can operate by majority, the foundation would, for all practical purposes, be controlled by the founder and their nominees. In Guernsey, there is no need for regulated membership of the council, so full control is equally possible.

Because control of the council is lawful, no theoretical problem is caused by the fact that in Esteem, the court refused to apply the concept of piercing the veil to trusts, even where the settlor had assumed control of the trust.

This would have entailed the court (a) relying on the breach of duty by the trustee to the beneficiaries as a whole whereby they allowed themselves to be overborne, and (b) possibly committing another by making a notional transfer to the settlor in excess of power. In any case, a trust has no veil. It is simply a relationship of obligation about an asset.

No ownership

It is not just control of the interposed company that is relevant but its ownership too. This is how it may be said that the assets of the company indirectly belong to the controlling shareholder anyway. With companies, the two usually go together.

But a core feature of the foundation is lack of ownership. A founder makes a gift by way of endowment and an initial subscriber to a company loans the face value of their shares, and is entitled to a pro-rated share in the net assets on winding up. Here an economic relationship subsists between the shareholder and the company through the shareholding’s lifetime.

And beneficiaries are not owners. Article 25(1)(a) of the Jersey Law states that a foundation beneficiary has “no interest in the foundation’s assets” or even the right to require their interests to be considered periodically, let alone payment of benefits. Article 25(1)(b) provides that they are not owed a fiduciary duty or anything akin to it. They can only sue for specific performance of any dividend declared, like a shareholder. But they have no rights to information (unless the regulations permit it) or to participation via voting.

The point is underscored if piercing the corporate veil of a company entails the claimant taking for itself the controller’s crystallised interest in the shares and using the indirect legal control that shareholders wield over the company’s operations.

The claimant “accessing assets of the company because it is identified with its owner” (Prest) surely just telescopes the above process. A court piercing the corporate veil will not be prepared to make orders that prejudice third-party creditors of the company.

Damage would be done to the structuring uses of foundations if their orphan status was ignored. Consistent with being a remedy of last resort, the court should deal even with hard cases by means other than extending the doctrine of piercing the veil to foundations.

Kathryn Purkis is a partner at Collas Crill in Jersey