Many people assume that one company is readily interchangeable with another when they are owned by the same person. However, this is not the case and can prove downright dangerous if you assume that this flexibility will hold in times of financial stress. This article outlines some basics of the effects of incorporation and provides an example of why it pays to be precise.
Under the Corporations Act 2001 (Cth), a company (upon registration by the Australian Securities & Investments Commission) (ASIC) becomes a separate legal entity that may sue (and be sued) in its own corporate name. A key advantage of this is that the members (ie, the owners or shareholders) are only liable for the company's debts up to the value of their unpaid shares. With a large public company, the combined value of the shares may be in the billions. However, a small private company may only have a single share worth as little as $10 and no other assets. The effect of incorporation is that liability begins (and ends) in with the particular company, regardless of who owns it and what assets it has.
When This Might Not Apply
The courts are generally very cautious about "lifting the corporate veil", although some cases suggest that it may occur in situations where:
- the corporate structure is used as a tool for fraud;
- in a situation of a parent and subsidiary company where the subsidiary is a "straw man" (or mindless agent) thrown up by the parent; and
- generally, where an intervening company has been created for an individual to avoid legal obligations.
Additionally, provisions of Australian corporate, taxation and trade practices legislation allow a corporate structure to be disregarded in certain circumstances.
You run an architectural firm and one of your clients contacts you on the telephone and informs you that the client company ("XYZ123 Pty Ltd") will be a little behind in paying you a $5,000 invoice. After several more reminder calls over the next month, a cheque for $500 arrives in the mail from "ABC123 Pty Ltd". You try to clarify why a different company is paying and the client answers: "This is just what I can manage now; don't worry, it's my company too".
It goes without saying that this should start setting off some alarm bells.
The client promises to a further $3,500 in full settlement (again from ABC Pty Ltd) and you agree in writing to transfer the debt to this second company. By the time a second cheque arrives one month later, you learn that ABC Pty Ltd is insolvent and that the second cheque has bounced.
The risk with having accepted payment from a different company (which was perhaps trading while it had no money to operate) is that after the company is liquidated, you may end up with very little.
What You Should Do
In hindsight, the most important thing would have been to know who you are dealing with. ASIC maintains an online database of all Australian registered companies, which can be invaluable for checking details and seeing what documents have been recently filed by that company. Additionally, anyone can perform a company search with ASIC to identify who owns shares in the business.
However, in the above example, it would be important to urgently seek legal advice from insolvency lawyer. Company liquidation can occur within a very short time frame and it is often necessary to pursue the matter by attending a meeting of creditors.
The key message though is to understand that one company is not the same as another. Be precise and don't accept a change in the company you dealing with unless you have an understanding of exactly what has happened.