It’s no surprise that company directors worry about their duties, responsibilities and possible liabilities if their business is insolvent. They are right to do so because directors duties do change in insolvency.
The primary ways in which director duties change with insolvency are :-
- Directors are expected to know or ought to know if their business is insolvent
- If the company is insolvent, the directors have a duty to cease trading
- The directors have a duty to put creditors interests first
- Directors must co-operate where an Insolvency Practitioner is appointed
If you are a director and are worried, we can help. We have many years of experience in advising small company directors like you. We have a team of both experienced small business advisors and Insolvency Practitioners.
For most limited company directors, insolvency is uncharted territory. Below we explain some of the key duties and responsibilities you will face once your company has become insolvent. It’s vital you understand these to avoid breaking the law unknowingly and risk accusations of directorial misconduct.
We would always recommend making contact with us for a free confidential discussion at the earliest opportunity so we can offer some insight on your best course of action.
Directors Duties When Facing Insolvency
For directors who have spent many years successfully generating profits for shareholders, it may be difficult to imagine prioritising anyone else. But it’s essential that you do.
At the point of insolvency, your primary legal responsibilities shift to creditors from shareholders and your behaviour must be seen to demonstrate this.
Make sure to keep clear records of emails and conversations. Maintain accurate books and records. Understand the rules around trading when insolvent.
And most importantly take qualified advice from insolvency practitioners such as ourselves at the earliest opportunity.
What does the Insolvency Act 1986 Say About Directors Duties?
The key legislation regarding directorial conduct in insolvent situations is the Insolvency Act 1986. Here are the sections of particular relevance.
Section 212: Misfeasance
Misfeasance is essentially misapplying or retaining company property, or breaching fiduciary responsibility around money. It applies to both current and ex-officers of the company.
Section 212 makes officers personally accountable to the extent of the loss caused by their actions. It is also taken into consideration by the directors disqualification unit.
Section 213: Fraudulent Trading
A criminal rather than a civil offence, fraudulent trading is where it can be proven that there was a knowing attempt to defraud creditors.
One example of this would be where a director manages to obtain credit or finance while aware of the company’s inability to pay it back.
Conviction for fraudulent trading requires definitive proof which, in practice, is often difficult.
Nevertheless, fraudulent trading is a serious offence carrying with it financial penalties, potential jail time, and personal liability for corporate debts.
Section 214: Wrongful Trading
An insolvency practitioner involved in liquidating a company has a duty to investigate directorial conduct in the time directly preceding the point of insolvency.
In particular, they will be looking for evidence that a director understood the law and did not seek to prioritise any other interests than creditors once they understood their situation.
Wrongful trading is a civil offence, carrying with it fines, penalties and in the most serious cases jail. Conviction of wrongful trading may also cause directors to be held personally liable for some or all of the corporate debt.
This is where directors who have kept clear records, including recording all key decisions in the minutes of board meetings, stand a better chance of demonstrating their adherence to the law.
The key test of directors conduct is whether :
- they took every possible step to prevent losses to company creditors
- they knew or ought to have known that there was no reasonable prospect of avoiding insolvent liquidation
Section 238: Transactions at Undervalue
This section covers the risks of directors selling goods or assets at a lower than market value, in the period preceding insolvency. IP’s will be looking at a period of up to two years prior to liquidation.
Where evidence of transactions at undervalue is discovered, these sales may be ‘set aside’, which means the court can reverse or invalidate the sale.
Section 239 – Preferences
This section refers to the possibility of a director or other office holder putting through a transaction which puts one creditor in a preferential position over another after the insolvency.
Again, the insolvency practitioner has the power to set these transactions aside if they have occurred in the period of six months before insolvency. This period is extended to two years where ‘connected’ persons are involved, (such as family members, shareholders or other directions.)
Can a Director of a Limited Company be Personally Liable in Insolvency?
Where a director can be proven to have knowingly placed other interests before creditors after recognising the company’s insolvent position, he or she may be held personally liable for some or all of the debts.
Where directors hold a personal guarantee, they may also be held liable up to the limits stated on the guarantee.