The importance of the ‘veil of incorporation’ is that the owners of a company (the shareholders) and its managers are not normally liable for the company’s debts as, in law, a company is a separate legal person from its owners and managers. This encourages entrepreneurship and limits the potential liabilities of those who drive the economy, allowing them to take somewhat riskier decisions when developing their businesses. It also allows people to invest in companies without the fear of being asked to make further contributions should the business fail.

In a case which illustrates this point, a director whose company repeatedly failed to pay VAT escaped a £100,000 penalty after a tribunal ruled that he had not been dishonest.

The man was the company’s managing director but his expertise lay in the technical and shop floor aspects of the business. He had little understanding of finance or tax and, in those respects, relied on the company’s finance director. He said that he was entirely unaware that, over an extended period, the company had been failing to file VAT returns and had been under-declaring its tax liabilities.

The truth emerged following an HM Revenue and Customs investigation. As well as being required to pay all the VAT that it owed, the company was hit with a £200,993 penalty. The director was also issued personally with a £100,496 penalty on the basis that he had been dishonest, within the meaning of Section 61 of the VAT Act 1994.

In allowing his appeal, however, the First-tier Tribunal found that he was a truthful witness and had had no knowledge of the company’s defaults. He could not be regarded as having been dishonest by the standards of a reasonable and honest person. The penalty imposed on the company was, however, upheld.