Disqualified directors now face an added risk of compensation order claims by the Secretary of State - even if they have agreed to be disqualified by a voluntary undertaking. It is vital to take early legal advice to avoid a significant money claim - call us for help.
Where a director of an insolvent company is subject to a disqualification undertaking or a disqualification order then s/he faces the risk of a compensation order claim if the misconduct pre-dated 1 October 2015.
- a compensation order is where the Secretary of State seeks an order from the court that the director should pay compensation for the losses arising from his/her misconduct;
- a compensation order is a different type of application to the more contested proceedings that a director may also have faced resulting in a disqualification order being made at court.
However, for a majority of stakeholders in a company’s insolvency, i.e. creditors, this requirement payment of compensation by a director is a welcome relief.
Benefits of compensation order proceedings
The perceived benefits of compensation being paid by a director, rather than as a result of a legal claim by an appointed liquidator or administrator, is that it is sought by the Secretary of State and therefore the associated cost of such recoveries is likely much lower (theoretically increasing the net return to creditors).
- where an appointed administrator or (more usually) liquidator issues a claim against a director, it is not uncommon for a large amount of the sums recovered from the director to be swallowed up by the legal costs and a second band of private professional fees – the liquidator’s own time costs;
- this can have the effect of dramatically reducing the monies available for creditors, and this may be further reduce if the director does not have the resources to pay all of the claim and legal costs.
However the Secretary of State when seeking a compensation order will have little costs to seek other than the legal costs of those proceedings, which may be lower than conventional private market rates. The result of which is that the net return to creditors is potentially higher.
This recovery level will be increased further where the director offers to enter into a compensation undertaking (subject to the value of the negotiated level of compensation).
However, as with all litigation proceedings, timing is crucial.
- in many circumstances, a director faces the prospect of both being disqualified (and then subject to compensation order proceedings) and a separate claim by the liquidator / administrator linked in some way to the same misconduct;
- where this occurs, the director faces two sets of proceedings and often may have insufficient resources to meet the collective judgments in both sets of proceedings.
However, if a liquidator / administrator has commenced steps to issue such proceedings very shortly after the insolvency has commenced, then it is likely that s/he will be able to realise or recover sums for the benefit of creditors much earlier, as disqualification proceedings do not have to be issued for up to 3 years from the date of insolvency.
Paying a compensation order / undertaking
There are no statutory provisions governing how a compensation order or a compensation undertaking is paid (as with all statutory claims).
However, where a director’s only assets comprise income (or an income-generating asset such as a business) then it is almost certain that the Secretary of State will negotiate on and even agree to an instalment arrangement to pay such sums.
As with all such negotiations there are methods by which the liability could be reduced, dependent on the director’s strategy and resources (and the proposals offered) and please contact us if you require assistance with such negotiations.
Who receives any compensation paid?
The amendments to the Company Directors Disqualification Act 1986 provide that compensation (whether paid under a compensation order or a compensation undertaking) is payable for the benefit of:
- a creditor or creditors specified in the order; or
- a class or classes of creditor so specified.
Accordingly, it is conceivable that unsecured creditors (as a whole) will not benefit from a compensation order being sought or a compensation undertaking being provided. It is highly likely that instead the creditors who lost directly as a result of the director’s misconduct will receive the benefit of compensation payments.
This will obviously cause prejudice to a majority of creditors of the company, who will lose out from the compensation being paid by the director AND will lose the prospect of a recovery by an appointed administrator / liquidator (who is likely to be disincentivised by the risk that all of the director’s assets have been depleted as a result of the compensation so payable).
However, in the alternative, the legislation provides that compensation may be payable,
“as a contribution to the assets of the company so specified.”
From the general point of unsecured creditors this is far more preferable. However, it is difficult to conceive of circumstances where the loss caused has been a loss to the company generally (rather than a specified creditor or class of creditors).
Examples of compensation outcomes
The most obvious example to consider when analysing who benefits from compensation order proceedings is found by considering the most common grounds for disqualification – trading to the detriment of HMRC.
- where the director has been disqualified on such grounds, it is likely that compensation could be sought for the loss to HMRC, namely its claim in the insolvency proceedings (which can be quite significant);
- in such circumstances, where compensation is paid for such misconduct, then the compensation is likely to be paid over “for the benefit of a creditor [specified in the order]” i.e. HMRC;
- other unsecured creditors are unlikely to see any of this compensation, whilst also suffering the risk that any claim the appointed liquidator or administrator may have brought is now less likely to be issued or, if issued, faces a greater risk of being uneforceable.
At Francis Wilks & Jones we regularly advise and assist directors with regard to threatened disqualification proceedings and defending disqualification claims, offering a disqualification undertaking, seeking leave to act as a director and facing the risk of a compensation order and providing a compensation undertaking. Please call any member of our Director Services Team for your consultation or simply e mail us. We are here to help.