Lara Candoğan

Attorney

13.09.2023

Unveiling The Legal Entity Screen And Organic Bond

Companies contribute to trade and economic growth. However, the complexity and versatility of companies bring about various legal issues. In particular, the legal entity status of companies and the use of this legal entity by their real owners or managers are sometimes questioned from a legal perspective. In this context, the concepts of " Unveiling of the Legal Entity" and "Organic Link" are at the center of corporate law.

A)    UNVEILING THE SCREEN OF LEGAL PERSONALITY
 
a)      Concept of Legal Entity and Unveiling of the Legal Entity

Legal personality is the recognition of a company as a separate legal entity with rights and obligations like a real person. In this respect, companies become a separate legal entity by acquiring legal personality. This situation allows the legal entity to perform transactions such as paying the company's debts, collecting receivables, and issuing contracts. Since the legal entity is recognised as a separate legal entity from the owners or managers of the company, it represents the principle that the debts of the company are separate from the personal assets of the company owners. 

 The veil of legal personality gives the company a separate legal existence. It provides a legal distinction between the company's own existence and the managers and owners within the company. However, sometimes the legal personality of the company can be misused or abused for unfair purposes. This is where the concept of "Unveiling of the Legal Entity" comes into play.

The unveiling of the Legal Entity, in its most fundamental sense, refers to the disregard of the principle of the separateness of the legal entity in a concrete case and the ability of third parties who are creditors of the legal entity to apply to the individuals forming the legal entity. The prerequisite for the Unveiling of the Legal Entity is that the creditors of the legal entity incur losses, meaning they cannot collect their debts. Such situations typically arise with the aim of concealing the true relationships and activities between the owners or managers of the company and the company itself.

The Turkish Law does not regulate Unveiling of the Legal Entity.  Therefore, Unveiling of the Legal Entity is accepted in line with the opinions in the doctrine and the decisions of the Court of Cassation. In the decision of the 3rd Civil Chamber of the Court of Cassation E. 2019/593, K. 2019/9655, T.3.12.2019, "In some exceptional cases where the legal entity is abused, the real or legal person partners may be held liable by Unveiling of the Legal Entity.  In practice and doctrine, it is also accepted that it may be possible to apply the Unveiling of the Legal Entity Theory in very exceptional cases". This decision of the Court of Cassation clearly recognises that this theory can be used. However, the Court of Cassation has stated that the screen of legal entity may be applied in exceptional cases.

The veil of legal personality is lifted in order to ensure that the real persons who are the shareholders of the company are also responsible for an obligation or debt for which the company, i.e. the legal entity, is responsible. In this respect, not only legal personality, but also real personality is added to the legal entity side of the legal relationship. The purpose of this veil is to prevent natural persons from misleading the law and violating their responsibilities by taking shelter under the veil of legal personality. 

Being in control of the decision-making bodies of a legal entity, being the sole shareholder or sole manager of a legal entity is not sufficient for Unveiling of the Legal Entity. In line with the principle of limited liability, the creditor must first apply to the legal entity. Since unveiling the screen of the legal entity and applying to real persons is an exceptional case in line with the decisions of the Court of Cassation, it can only be applied for receivables that cannot be collected from legal persons. However, the veil of legal personality can only be lifted if all the conditions of abuse of right are present together. 

b)      Reasons for the Unveiling of Legal Entity

In the doctrine, in general terms, there are three basic situations in which the legal personality can be unveiled;

a.      The Assets of the Company's Shareholders and the Company Become Identical by Mixing: In some cases, the distinction between the assets of the company's partners or directors and the assets of the company may become unclear or lost. Unveiling of the Legal Entity can correct such situations if it is not possible to determine exactly who carried out legal transactions, and thus the personal liability of the owners of the company is determined.
b.      Damage to Other Partners and Creditors in Joint Protection Due to Foreign Management: If a company is controlled by a foreign management or managers and this management is misusing the company and other shareholders and creditors of the company are harmed by this situation, the veil of legal personality may be lifted. This action may be necessary due to the foreign management's misuse of the company's assets or unfair gain.
c.       Concealment of Insufficient Equity Reserves from Third Parties Despite Being Known: Although the equity of a company is insufficient, if the owners or managers of the company conceal this financial difficulty from third parties and enter into legal transactions with third parties without compensating for the insufficiency of the equity, the legal personality veil of the company may be lifted.

c)      Unveiling of the Legal Entity Methods 

For the reasons mentioned above, the veil of legal personality may be temporarily or permanently lifted or "reversed" for legal or economic reasons.

1-      Straight (Direct) Unveiling of the Legal Entity

Essentially, what is understood as Unveiling of the Legal Entity is the flat lifting of the screen. The practice accepted by the Court of Cassation is the straight unveiling of the screen of legal entity. Flat (direct) unveiling of the screen of legal entity means the complete removal of the legal personality of a company. This process aims to identify who is actually behind the legal personality of the company and who is responsible for their actions. This enables the creditors of the legal entity to have recourse to the controlling or sole shareholder of the legal entity who abused the veil of legal personality in order to escape liability.

2-      Reverse (Indirect) Unveiling of the Legal Entity

In case of a reverse unveiling of the screen of legal entity, the creditors of the shareholder of the legal entity may apply to the legal entity with which the shareholder has a controlling relationship, and may hold the said legal entity liable together with the shareholder. Although this situation is referred to in the doctrine as the reverse (indirect) lifting of the veil of legal entity, in our opinion, there is no Unveiling of the Legal Entity in the technical sense. This is because, in case of reverse unveiling of the screen of legal entity, the legal entity is held liable together with the shareholder.

3-      Cross Unveiling of the Legal Entity

The ability of the creditors of the subsidiary companies in a group of companies to apply to the parent company or another subsidiary company dominated by the parent company in case of abuse of this relationship, and therefore, the parent company or the other subsidiary company may be held liable to the creditors together with the subsidiary company, which is the main debtor, is referred to as cross-lifting the veil of legal personality. The Court of Cassation has also applied the cross-lifting of the veil of legal personality in various decisions. 

B)     ORGANIC BOND

In company law, the term "organic link" defines the relationships between different companies. An organic link is the recognition of legal entities as extensions of each other, even if there is no identity, commercial, economic link or integrity between different legal entities. Organic ties indicate that although the entities may appear to be independent entities, they are in fact part of a network managed by the same persons or entities. Organic linkage is a legal remedy that enables the pursuit of receivables against a legal entity against the company that has a certain level of legal relationship and connection with the original debtor company. This situation does not only result in joint liability for debts; they may be held jointly liable for many issues. This issue is again based on the rule of honesty in Article 2 of the Turkish Civil Code, as in Unveiling of the Legal Entity. Groups that pursue the same interests and are managed by parties who have these interests are prevented from abusing their legal entities. If the companies are managed from the same centre, if there is a kinship relationship, if the employees are mostly the same, if there is a transfer relationship between them or if there is economic integrity, organic bond may be mentioned. However, since there is no specific regulation in the law, no precise criteria can be mentioned.

Organic bonds can occur in many different ways. For example, a company may control other companies under a holding structure. This relationship may aim for vertical integration or horizontal expansion.

In Turkish Law, the concept of Organic Ties is not regulated by law, but it is a concept that has emerged through precedents and case law of the Court of Cassation. In the decision of the 9th Civil Chamber of the Court of Cassation, 2018/2125 E., 2018/20573 K. T. 14.11.2018, it is stated that "Indirect representation is in question due to abuse of the right of legal personality, fraud against the law, damaging the employee (preventing the receipt of his rights), collusion on the side (showing another person as the employer in the record, although the service is provided to him) and the nom de plume approach. In these cases, the real employer or all employers with organic ties are held liable by Unveiling of the Legal Entity. The organic bond is understood from the fact that the addresses, fields of activity, partners and representatives of the companies are the same, and from the determination of the legal relations between them".

a)      Unveiling of the Legal Entity and Organic Bond Comparison

Unveiling of the Legal Entity and the organic link represent two different but interconnected concepts in corporate law. There are some fundamental differences between Unveiling of the Legal Entity and the organic bond.  However, both are based on the principle of extension of liability. Unveiling of the Legal Entity generally allows the creditor to extend liability to natural persons who are shareholders of a company, whereas the organic bond allows different companies to be liable for the same debt. The main difference here is that while Unveiling of the Legal Entity imposes liability on natural persons, the organic bond enables another legal entity to be held liable.

CONCLUSION

In conclusion, in the context of corporate law, Unveiling of the Legal Entity and organic bond are important concepts that reflect the complexity of the business world. Both concepts play a vital role in ensuring fair competition in the business world, preventing unfair practices and increasing social trust. Although legal entities and natural persons have separate assets due to the principle of separation in corporate law, in some cases, as mentioned in our article, the merger or separation of legal entities may lead to an increase or expansion of the liability of debtors.

In the context of Commercial and Corporate Law, the removal of the corporate veil is an important issue for corporate management. This article examines in detail the conditions under which and the methods by which the corporate veil can be lifted.