The recent credit crunch has made the threat of insolvency a real one – bringing director’s responsibilities under the spotlight. Unsuspecting directors stand to lose much more than just their position in a company.
The Insolvency Act 1986 (“IA 86”) and the subordinate legislation that accompanies it (the Insolvency Rules 1986) is the basis of insolvency law in the UK. Two further statutes - The Insolvency Act 2000 (“IA 2000”) and The Enterprise Act 2002 (“EA 2002”) - have brought about significant changes to this landscape, the first having altered the company voluntary arrangement (CVA) procedures in relation to small companies whilst the second, has had a huge impact on the position of secured and unsecured creditors and altered the administrative receivership regime. In an attempt to remove the stigma associated with insolvent companies, the EA 2002 has also introduced the concept of ‘rescue culture’. So what does this all mean for directors?
When a company is going through financial difficulties, the first rule for the director(s) must be to seek professional advice (where necessary) and act swiftly. Whilst shareholders are generally protected by incorporation, it can be far more problematic for the directors who, in certain circumstances, can be held personally liable if they get it wrong!
Under the IA 86, guilty directors were put under the microscope for acts of wrongdoing to include: -
A director’s breach of duties to the company - may be liable to compensate the company for losses arising from the breach.
- Wrongful Trading (S.214, IA 86)
This is where a director continues to allow the company to trade, knowing (or where they ought to have known) that insolvent liquidation was inevitable. Here, a director may be required to compensate creditors who will have lost out by the continued trading, by having to make a contribution to the assets of the company.
- Fraudulent Trading (S.213, IA 86)
Essentially a civil remedy this is where the director (or other officer or promoter of the company) knowingly carries on a business with the ‘intent to defraud creditors or for any other fraudulent purpose’. On the application of a liquidator, the director may be liable to make a contribution to the company’s assets but the personal liability does not end there.
Where a person is found guilty of fraudulent trading, they may face a criminal investigation and or prosecution, as fraudulent trading also amounts to a criminal offence.
In addition, a director who is guilty of misconduct and therefore deemed to be unfit to hold office can face disqualification proceedings under the Directors Disqualification Act 1995. Depending on the severity of the misconduct, the disqualification could be for a period of anywhere from two to fifteen years. The disqualification would be in relation to any kind of management role, not just limited to a formal office, and can also apply to such involvement with companies based abroad (if that company has assets or creditors in the UK).
In the event of potential financial difficulties for a company, directors should treat the interests of creditors as paramount and always act calmly. The matter should be discussed at board level and if it appears that insolvent liquidation is unavoidable, the director(s) should seek independent professional advice with a view to protecting the position of creditors. In short, a director should act swiftly in seeking expert professional advice but calmly in taking any necessary actions.
This article is intended as a brief summary of the potential issues facing a director in the event of financial difficulties for a company. It does not contain full details of the relevant laws and regulations and does not constitute legal advice. In the event of any queries, you must seek independent legal or other professional advice. If you require legal advice and assistance on any of the issues identified here, please contact either :