In the highly stressful situation where your business is in severe financial difficulties it can be tempting to continue trading even if you know your business is insolvent. Doing so can result in significant legal risk and liability, including wrongful and/or fraudulent trading.
Enquiring into whether company directors have acted correctly when a business becomes insolvent is a key role of the liquidator.
If you are unsure about whether your business is insolvent, need to understand what the right things to do are to avoid suspicion of wrongful or fraudulent trading, or you just need some experienced, specialist guidance on your options where your business has severe financial problems, we can help. Please do get in contact.
What is Wrongful Trading?
Wrongful trading is a civil offence based on directors failing to minimise losses to company creditors, subsequent to realising their company is insolvent.
It is a statutory offence under Section 214 and Section 246ZB of the Insolvency Act 1986.
Under Section 214, wrongful trading is defined as when a director of a company:
- allows the business to trade past the point where they: knew, or ought to have concluded that there was no reasonable prospect of avoiding insolvent liquidation;
- did not take every step to minimise the potential loss to the company’s creditors.
The wrongful trading provisions were created so that creditors could recover money from directors who wilfully traded irresponsibly without care or consideration to creditors. When it is ascertained by a court that a director failed to comply with their duty to minimise potential losses to creditors, the director can be held personally liable for an amount the court deems ‘proper’.
Examples of Wrongful Trading
The list provided below is not a definitive list but covers the most common types of director conduct which may amount to wrongful trading and warrant further investigation by the liquidator:
- A director paying his own salary whilst PAYE/NI for employees is not paid;
- Buying goods on credit when there is no means to pay for them;
- Using customer deposits for cash-flow purposes with no means of supplying goods;
- Repaying personal guarantees in preference to other creditors;
- Failing to pay HMRC when other creditors are being paid;
- Continuing to trade claiming VAT and either not being registered for VAT, or not paying VAT;
- Any transfer or sale of assets at anything less than a fair and reasonable commercial value.
What is Fraudulent Trading?
This is where a director sets out to deliberately defraud creditors. Fraudulent trading is a criminal offence which can be punished by up to ten years in prison. It also renders guilty parties personally liable for contributions to the company assets.
What are the Penalties for Wrongful Trading?
Wrongful trading can carry the following consequences:
- Directors Disqualification for up to 15 years – Any wrongful trading that has been identified as ‘blameworthy, or dishonest’ may lead to a director being disqualified for 2-15 years and or fined and in the worst cases imprisonment.
- Fines may be issued to directors
- Directors can be held personally liable for some or all of the company debts