INTRODUCTION
When a creditor is defrauded by a company, the first reaction is often frustration: the company has no money, no assets and no real business substance. The people behind it may say that the debt is owed by the company alone, and that they are protected by limited liability.
That is not always the end of the matter.
Limited liability protects honest business risk. It does not protect fraud. Where a company has been used as a vehicle to mislead creditors, incur debts dishonestly, or place liabilities in an empty corporate shell while the real benefits are enjoyed elsewhere, Malaysian company law gives creditors a powerful remedy.
That remedy is fraudulent trading under section 540(1) of the Companies Act 2016 (“CA 2016”). In appropriate cases, a creditor may ask the Court to make the wrongdoers personally liable for the company’s debts or liabilities. This means that although the contract or debt may have been entered into in the company’s name, the people who knowingly participated in the fraud may be ordered to pay personally.
SECTION 540(1): A REMEDY FOR CREDITORS, NOT JUST LIQUIDATORS
Section 540(1) of the CA 2016 applies where, in the course of winding up a company or in any proceedings against a company, it appears that the company’s business has been carried on with intent to defraud creditors or for any fraudulent purpose.
Where this is shown, the Court may, on the application of a liquidator, creditor or contributory, declare that any person who was knowingly a party to the fraudulent carrying on of the company’s business shall be personally responsible, without limitation of liability, for all or any of the company’s debts or liabilities as the Court directs.
For creditors, this is significant.
The remedy is not confined to recovering from the company. It allows the Court to look beyond the company and ask whether the people behind it knowingly used the company for a fraudulent purpose. If they did, the Court may impose personal liability on them.
In practical terms, section 540(1) may turn a claim against an empty company into a claim against the individuals who were responsible for the fraud.
WHY THIS MATTERS TO VICTIMS OF CORPORATE FRAUD
Fraud through a company often follows a familiar pattern. A creditor contracts with a company. The company appears to be a legitimate business counterparty. Promises are made. Goods, services, money or assets are provided. Later, the creditor discovers that the company has little or no assets, no genuine ability to pay, and no meaningful business substance.
Meanwhile, the benefit of the transaction may have been transferred to directors, shareholders, related companies, family members, nominees or other connected parties. The company is left with the liability. The wrongdoers keep the benefit. The creditor is told to sue the company.
Section 540(1) is designed for such cases. It recognises that a company’s separate legal personality should not be used as a device to defeat creditors. If the company was used dishonestly, the law may make the wrongdoers personally answerable.
WHO CAN BE PERSONALLY LIABLE?
The wording of section 540(1) is deliberately wide. It refers to “any person” who was knowingly a party to the fraudulent carrying on of the company’s business.
This means that potential liability is not necessarily limited to formally appointed directors. Depending on the facts, a claim may potentially be brought against:
- a) Directors who caused or approved the fraudulent conduct;
- b) Shareholders or beneficial owners who controlled the company;
- c) Shadow directors or persons who acted behind the scenes;
- d) Related parties who participated in the arrangement;
- e) Individuals who used the company to receive benefits while leaving the company with the debt; and
- f) Any other person who knowingly took part in the fraudulent carrying on of the business.
The key question is not the person’s title. Rather, it is what that person knew, what he did, or whether he deliberately turned a blind eye to the fraudulent conduct. In Lai Fee & Anor v Wong Yu Vee & Ors [2023] 4 CLJ 1, the Federal Court explained that actual knowledge is required before a person can be said to be “knowingly” a party to fraudulent trading.
However, actual knowledge does not require proof that the person knew every detail of the fraudulent scheme, it is sufficient if the person turned a “blind-eye”, that is, he deliberately shut his eyes to the obvious fact that fraud was involved (see: Tay Keong Kok & Ors v Eastmont Sdn Bhd and another appeal [2024] 5 MLJ 683). Accordingly, liability does not depend on whether the person held a formal controlling or managerial role within the company, but on whether he knowingly participated in, or deliberately ignored, the fraudulent trading.
This is important for creditors. A wrongdoer cannot necessarily escape liability simply by saying, “I was not a director,” or “I did not sign the contract.” If the evidence shows that the person knowingly participated in the fraudulent use of the company, section 540(1) may still be engaged.
WHAT MUST THE CREDITOR PROVE?
A claim for fraudulent trading is not established merely because the company failed to pay. Non-payment alone does not amount to fraud. Business failure and insolvency also do not amount to fraud.
The creditor must show dishonest use of the company. In Tay Keong Kok & Ors v Eastmont Sdn Bhd & Another Appeal [2025] 5 MLJ 683, the Court of Appeal identified the following 3 elements for fraudulent trading:
- 1. The company’s business must have been carried on with intent to defraud;
- 2. The defendants must have been parties to the carrying on of the business; and
- 3. The defendants must have been knowingly parties to the carrying on of the business with intent to defraud.
This means that creditors should focus on evidence showing that the company was not merely unable to pay, but was used as part of a dishonest scheme.
The Court will consider the substance of the transaction. It will ask whether the company had any real ability to perform, whether the people behind it knew this, whether representations were made to induce the creditor to deal with the company, whether assets or benefits were diverted, and whether the corporate structure was used to avoid liability.
CONCLUSION
Fraudulent trading under section 540(1) of the Companies Act 2016 is a powerful remedy that allows the Court, in appropriate cases, to look beyond the company and hold those who knowingly used it as an instrument of fraud personally liable.
In the next part of this series, we will examine how the Malaysian courts determine whether a company was in fact used to carry on business with an intent to defraud creditors and the types of evidence that can establish such fraudulent conduct.
About the authors
Siva Kumar Kanagasabai
Senior Partner
Head of Dispute Resolution Practice Group
Halim Hong & Quek
kumar@hhq.com.my
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Erica Wong Jia Chie
Associate
Dispute Resolution
Halim Hong & Quek
erica.wong@hhq.com.my
