Personal liabilities
This article is based on UK law as at 1st April 2007, unless
otherwise stated.
Wrongful trading
In cases of insolvent liquidation, a director or shadow director
can be required to contribute towards the debts or liabilities of a
company. This provision does not merely apply to “trading”
activity: any act, or failure to act, that either increases or does
not minimise losses to creditors can lead to liability.
The level of personal contribution will be determined by the
court; it will reflect the extent to which the company’s assets
have been depleted by the director’s conduct.
A court may make a contribution order if a liquidator can
show that before winding-up began the person knew or ought to have
concluded that there was no reasonable prospect of the company
avoiding insolvent liquidation. The only defence open to a director
in these circumstances will be that they took every step they could
to minimise the potential loss to a company’s creditors. The onus
will be on the director to prove this defence.
[The other main points about wrongful trading litigation are
covered in our OUT-LAW Wrongful trading:
FAQs.]
Disqualification
The Company Directors Disqualification Act 1986 (CDDA) provides
that a director can be disqualified for a minimum period of two
years for:
- general misconduct in connection with companies;
- conviction for an indictable offence in connection with the
promotion, formation, management or liquidation of a company;
- fraud in winding-up proceedings;
- persistent breaches of companies legislation. An example would
be persistent default in filing any return, account or other
document with the Registrar of Companies;
- unfit conduct as the director of a company that has at any time
become insolvent (i.e. gone into liquidation, administration or
receivership).
The object of disqualification is twofold: to mark the court’s
disapproval and to protect the public. The corollary is that a
director can attempt to show that their continued ability to act as
a director would carry no risks to the public.
Sometimes, people are allowed to continue to act as directors
subject to certain safeguards. There could, for example, be
conditions that:
- no cheque or financial agreement on behalf of a company is
signed or executed by the director alone;
- any loan owed by a company to the director is not repaid unless
all creditors of a company are paid first;
- the director shall not grant or accept any security over a
company’s assets.
“Phoenix” syndrome
Legislation stipulates that the directors of an insolvent
company must not, without leave of the court or approval of
creditors, be directly or indirectly concerned in the promotion,
formation or management of another company with a similar name
within five years of the date of liquidation. These provisions
relate to a name or trading name used by the liquidated company at
any time in the 12 months before the liquidation.
If the business is acquired from an insolvency practitioner it
can trade under a similar name provided a notice is sent to
creditors making clear who from the old company is involved and
what they are doing in the phoenix company. This notice must be
circulated before a director of the insolvent company has any
involvement with its “namesake”, but it does not provide a
guarantee that the director will escape personal liability for the
debts of the phoenix company. In many cases, a director in this
situation should be advised to seek leave of the court before
becoming directly or indirectly concerned with the “new”
company.
Misfeasance
Under the Insolvency Act, office holders and people involved in
the promotion, formation or management of a company can be sued for
misfeasance – the misapplication or retention of the company’s
assets or a breach of a fiduciary or other duty.
Misfeasance actions are brought in the name of the company. This
distinguishes them from claims made under the provisions for
wrongful trading, transactions at an undervalue and preferences –
all of which are brought by a liquidator in their own right.
They are often seen as a simpler and, therefore, speedier means
of bringing delinquent directors to book and of assessing
compensation and damages.
Fraudulent trading
If any company carries on business with the intent to defraud
creditors or for any other fraudulent purpose, a liquidator of the
company can apply to a court for a contribution order against any
person who was knowingly a party to the offence. Since they require
fraudulent conduct – i.e. a deliberate intention to act to the
detriment of another party – these types of claim are rare.
Nonetheless, they remain a risk for directors who allow a company
to continue to trade and incur liabilities when they know there is
no real prospect that these will be paid.
Pensions
The Pensions Act 2004 includes provisions that could make a
director personally liable for a pension scheme deficit (see part
III of chapter 5). The so-called “moral hazard” provisions allow
the pensions regulator to serve contribution notices on certain
third parties in addition to the company itself. These notices can
impose liability for all or part of an occupational pension
scheme’s deficit and can be served on people (e.g. directors) who
have attempted or been involved in an attempt to:
- prevent the recovery of the whole or any part of a debt that
was due, or might become due, from the employer in relation to the
pension scheme;
- otherwise than in good faith, prevent such a debt becoming due
or compromise or reduce it.
The provisions came into effect on April 6, 2005. However, they
can, at the discretion of the regulator, apply to any act or
failure to act that occurred on or after April 27, 2004.
While the pension fund itself is an unsecured creditor of a
company, any deficit is likely to be large: it should never be
ignored. Directors must also be aware of the possibility of
conflict of interest where they sit on the trustee board and the
board of the company.
Personal guarantees
Generally, directors are not personally liable for company
debts. If, however, they have given personal guarantees on company
loans, personal liability will be incurred. In some cases,
bankruptcy orders may even result.
