Bryan T.

Magcanta

Problem XXII
The Philippine Motor Corporation is a domestic corporation engaged in the importation and distribution
of luxury cars. It shareholders are Jose, Antonio, Pedro, Carlos and Nicholas. Five years later, Pablo, son
of Jose, Carmen, wife of Antonio, Reynaldo, brother-in-law of Pedro, Carlos and Nicholas, organized the
Fancy Cars, Inc., a domestic corporation engaged in the selling of luxury cars. Upon its incorporation, the
Philippine Motor Corporation appointed the Fancy Cars, Inc. as its exclusive distributor in the Visayas
and Mindanao. Sales taxes for the original sale of each imported car to the Fancy Cars, Inc. were duly
paid by the Philippine Motor Corporation. The Fancy Cars, Inc. did not pay sales taxes for its subsequent
sale of cars to the public on the premise that their sales did not constitute original sales. The Bureau of
Internal Revenue, alleging that the Fancy Cars, Inc. is a mere subsidiary of the Philippine Motor
Corporation, assessed the latter for deficiency sales taxes. Decide.

Facts:
Philippine Motor Corporation, a domestic corporation engaged in importation and distribution of luxury
cars. It's shareholders are Jose, Antonio, Pedro, Carlos and Nicholas.
Five years later, Fancy Cars, inc. was organized by Pablo, son of Jose, Carmen, wife of Antonio, Reynaldo,
brother-in-law of Pedro, Antonio and Nicholas organized the Fancy Cars, Inc. for the purpose of selling of
luxury cars. PMC appointed Fancy Cars, Inc as its exclusive distributor for Visayas and Mindanao.
The Fancy Cars, Inc. did not pay sales taxes for its subsequent sale of cars to the public on the premise
that their sales did not constitute original sales.

Issue:
Whether or not Fancy Cars, Inc. is merely an instrumentality, an adjunct, business conduit or alter ego of
Philippine Motor Corporation?

Discussion1:
Corporation; separate personality.

A corporation is an artificial entity created by operation of law. It possesses the right of succession and
such powers, attributes, and properties expressly authorized by law or incident to its existence. It has a
personality separate and distinct from that of its stockholders and from that of other corporations to
which it may be connected. As a consequence of its status as a distinct legal entity and as a result of a
conscious policy decision to promote capital formation, a corporation incurs its own liabilities and is
legally responsible for payment of its obligations. In other words, by virtue of the separate juridical
personality of a corporation, the corporate debt or credit is not the debt or credit of the stockholder.
This protection from liability for shareholders is the principle of limited liability. Phil. National Bank vs.
Hydro Resources Contractors Corp., .G.R. Nos. 167530, 167561, 16760311. March 13, 2013

Corporation; piercing the corporate veil.

Equally well-settled is the principle that the corporate mask may be removed or the corporate veil
pierced when the corporation is just an alter ego of a person or of another corporation. For reasons of
public policy and in the interest of justice, the corporate veil will justifiably be impaled only when it
becomes a shield for fraud, illegality or inequity committed against third persons.
The doctrine of piercing the corporate veil applies only in three (3) basic instances, namely: a) when the
separate and distinct corporate personality defeats public convenience, as when the corporate fiction is
used as a vehicle for the evasion of an existing obligation; b) in fraud cases, or when the corporate entity
is used to justify a wrong, protect a fraud, or defend a crime; or c) is used in alter ego cases, i.e., where a
corporation is essentially a farce, since it is a mere alter ego or business conduit of a person, or where
the corporation is so organized and controlled and its affairs so conducted as to make it merely an
instrumentality, agency, conduit or adjunct of another corporation.

Rationale
The rationale is to remove the barrier between the corporation from the persons comprising it to thwart
the fraudulent and illegal schemes of those who use the corporate personality as a shield for
undertaking certain proscribed activities.
Unity of Interest and Ownership Test
Courts generally refer to a common set of factors when examining the unit of interest and ownership
element of the test. These cases often arise in the context of a parent-subsidiary relationship where a
plaintiff claims that a parent entity should be liable for the debts and actions of its subsidy. Among the
factors considered are whether:
The parent and subsidiary have common stock ownership
The parent and the subsidiary corporation have common directors and officers
The parent and subsidiary have common directors or officers
The parent and the subsidiary have common business departments
The parent finances the subsidy
The parent caused the incorporation of the subsidy
The subsidiary receives no business except that given to it by the parent
Courts typically reason that no single factor is outcome determinative. Instead, they analyze the factors
under the totality of the circumstances. And courts generally require substantial contro by the parent
entity over the finances, policies and practices of the subsidiary to such a degree that the parent entity
operates the controlled corporation merely as its business conduit or agent.

Inequitable Result
Because the doctrine is applied to prevent injustice and achieve an equitable result, courts have
generally required that a plaintiff show fraud or similar abuse of the corporate form in order to pierce
the corporate veil. Courts have often held that something akin to fraud, deception or bad faith, or the
presence of a compelling public interest must be present in order to disregard the corporate form.

Three-Pronged Test
The Supreme Court has laid a three-pronged test in determining the applicability of the doctrine of
piercing the corporate veil or corporate fiction if based on the instrumentality or alter-ego rule. In
applying this rule, the courts are concerned with reality and not with form, with how the corporation
operated and the individual defendants relationship to that operation. The absence of any of the three
elements prevents piercing the corporate veil:
1. Instrumentality or control test. Control, not mere majority or complete stock control, but
complete dominion, not only of finances but of policy and business in respect to the transaction
attacked so that the corporate entity as to this transaction had at the time no separate mind,
will, or existence of its own;
2. Fraud Test. Such control must have been used by the defendant at the time the acts
complained of took place, to commit fraud or wrong, violation of a statutory or other positive
duty, or dishonest and unjust act in contravention of plaintiffs legal rights; and
3. Harm/Causal connection Test. The aforesaid control and breach of duty must proximately cause
the injury or unjust loss complained of. In other words, the causal connection between the
fraud committed through the instrumentality of the corporate form and the injury or loss
suffered by the plaintiff must be established. Concept Builders, Inc. vs. NLRC, 257 SCRA 149; Lim
V. CA, 323 SCRA 102; Manila Hotel Corp. vs. NLRC, 343 SCRA 1; Heirs of Durano Sr. vs. Sps. Uy,
347 SCRA 463.

Application
The case at bar finds similar application in a recent case Commissioner of Internal Revenue v. Menquito
(G.R. No. 167560, September 17, 2008), where the Supreme Court disregarded the separate and distinct
corporate identities of a sole proprietorship and a corporation. The Supreme Court held that the
doctrine of piercing the veil of corporate fiction would apply when the separate juridical personality of a
corporation is utilized to practice fraud on our internal-revenue laws. In such case, the entities are
treated as one taxable person, subject to assessment for the same transaction.
In the Menquita case, the Supreme Court stated that it considers the following as substantial evidence
that two entities are actually one juridical taxable person: 1.) when the owner of one directs and
controls the operations of the other, and the payments effected or received by one are for the accounts
due from or payable to the other; or 2.) when the properties or products of one are all sold to the other,
which, in turn, immediately sells them to the public.
The case at bar finds ground that warrants justification of applying the doctrine of piercing the veil of
corporate entity or disregarding the fiction of corporate entity as established in Prisma Construction
and Development Corporation and Rogelio S. Pantaleon vs. Arthur F. Menchavez, G.R. No. 160545,
March 9, 2010, particularly that (a) when the separate and distinct corporate personality defeats public
convenience, as when the corporate fiction is used as a vehicle for the evasion of an existing obligation.
As in the instant case, the organization of Fancy Cars Inc. by a son, a wife and a brother-in-law of the
shareholders of Philippine Motors Corporation and the subsequent appointment thereto as exclusive
distributor in the Visayas and Mindanao is a vehicle for Philippine Motor Corporation to avoid paying
higher taxes on original sales under section 195, paragraph B of the NIRC.
By so doing, the Philippine Motor Corporation could sell such imported cars to Fancy Cars Inc at a lower
price, effectively paying thereof its obligations on original sales taxes to the BIR based on a much lower
base price as compared to when selling it directly upon consumers themselves. While on the one hand,
Fancy Cars will have the benefit of selling the item on a much higher price without the liability or
obligation of paying therefrom the supposed taxes on original sale. Hence, the organization of Fancy
Cars Inc. is an effective vehicle for PMC to gain more in the same transaction at the expense of
decreased taxes assessed and due the Government on original sales.
And as enunciated in the Menquita case, these grounds are sufficient to warrant application of piercing
the corporate veil and disregard the separate corporate identity of one from the other in order to fully
assess its liability on original sales taxes due the Government.
Thus, as ruled in Prince Transport, inc., et al v. Garcia, et al., it is the act of hiding behind the separate
and distinct personalities of judicial entities to perpetuate fraud, commit illegal acts, evade ones
obligations that the equitable piercing doctrine was formulated to address and prevent;
A settled formulation of the doctrine of piercing the corporate veil is that when two
business enterprises are owned, conducted and controlled by the same parties, both law
and equity will, when necessary to protect the rights of third parties, disregard the legal
fiction that these two entities are distinct and treat them as identical or as one and the
same. In the present case, it may be true that Lubas is a single proprietorship and not a
corporation, however, petitioners attempt to isolate themselves from and hide behind
the supposed separate and distinct personality of Lubas so as to evade their liabilities is
precisely what the classical doctrine of piercing the veil of corporate entity seeks to
prevent and remedy.