Alexandra Knipe, Solicitor
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It is a harsh reality of the current economic climate that many companies are struggling to survive and are facing insolvency. Directors of those companies often find themselves in an impossible situation. In the day to day struggle to ensure the survival of their businesses, they are often unaware that their actions might increase their exposure to personal liability during a potential winding up.
Although the Companies Act 2006 codifies numerous directors’ duties, liability for the breach of those core duties often arises through fraud, deception or some other intentional act by the director. The Insolvency Act 1986 however imposes personal liability in circumstances that require no dishonesty.
Section 214 of the Insolvency Act allows a liquidator to apply for a personal contribution to the assets of a company from directors. This applies in circumstances where a company continued to trade when the directors knew, or ought to have known that there was no reasonable prospect that the company would avoid going into insolvent liquidation.
This is known as “wrongful trading”. Liability will arise where the liquidator can show the company is worse off as a result of the continued trading. The potential impact on a director can be devastating where the main personal asset to which a liquidator can enforce his claim is the family home. Apart from a financial claim, if a director is found to have engaged in wrongful trading, that director can be disqualified from holding any directorships, for up to 15 years.
Although wrongful trading is an area which can expose directors to personal liability, there are other considerations that should be taken into account during a winding up process. In practice, directors will often have given personal guarantees to banks to secure an overdraft. Whilst these can be challenged, they are often binding and banks will seek to enforce them against personal assets. Furthermore, banks and other institutions may seek the early repayment of a term loan where a company is deemed unable to repay its debts.
A liquidator will look critically at the actions of directors leading up to insolvency. However, claims for wrongful trading are rare, despite there always being a period of time when a director fears that the company may go under.
A liquidator will not normally seek an order for wrongful trading where, the directors have taken all possible steps to minimise the potential loss to the company’s creditors. Directors of a company can reduce their exposure to claims by ensuring that they scrutinise their finances regularly. It is recommended that regular board meetings are held with clearly documented minutes of the meeting, where the status of the company is discussed and realistic choices made to resolve issues. Directors should also be careful not to take out further loans or liabilities that will have an adverse impact on the internal financial viability of the company.
Directors should seek advice as soon as they discover that their company is in financial difficulties. Early advice will help eliminate the risk of committing an offence or personal liability.
Please email Alexandra Knipe or a member of Anthony Gold's Commercial team if you have any commercial or business queries or call 020 7940 4000.
