One of the key benefits of incorporating a limited liability company or partnership, both for directors and for shareholders, is that if a company enters an insolvency process, they are generally protected from personal liability for the debts of the company.
Duties in the ‘twilight’ period
There are however exceptions to the concept of limited liability. When a company is solvent, directors are subject to duties to the company to act in the best interests of the company and the shareholders – as set out in our directors fiduciary duties article.
However, directors of companies which are either insolvent, or are facing serious financial difficulties and are likely to become insolvent, have a change to their predominant duty. During this period (known colloquially as ‘the twilight period’) and beyond (including formal insolvency), directors’ duties move to the company’s creditors rather than shareholders.
- whilst it is not easy to pinpoint the exact time when the duties shift, the duty starts from the point at which directors knew or ought to have known that the company is likely to become insolvent.
- this means balance sheet insolvency, or they are unable to pay their debts as and when they fall due;
- from this point, a director should not incur credit that the company is unlikely to be able to meet, or they may face person liability for this increase in creditor loss.
The duty to act in the best interests of creditors is generally a subjective one although an objective standard might be applied in specific circumstances. If a director acts honestly and has a reasonable belief that a particular action is contrary to creditors’ interests, then even if it is, they may be able to argue a breach of duty claim.
Types of claim brought against directors for breach of duty
Any of these claims which can be bought by a liquidator or administrator once the company enters a formal insolvency process, may lead to personal financial liability of the director, and can also be used in a claim for misconduct under director’s disqualification proceedings.
Such claims can include (this list is not exhaustive):-
- misfeasance;
- fraudulent trading;
- wrongful trading;
- transactions at an undervalue;
- preferences claims;
- transactions defrauding creditors – similar to transactions at an undervalue but where the undervalue had the specific purpose of putting assets beyond the reach of a person who is making or may make a claim against the company.
If misconduct is proved, the director may be asked to repay monies to the company, to restore or account for the money lost, along with interest, by way of compensation for the breach of duty.
Shadow/de facto directors
Claims against directors, including director disqualification claims, are not limited only to directors registered at Companies House. These may equally apply to a shadow for a de facto director. Read more about this subject on our page – “What is a director”?
Director’s disqualification proceedings
Directors, (including shadow and de facto directors), may be subject to prosecution under directors disqualification legislation for misconduct as a director when a company is insolvent.
With any company that goes into liquidation, the liquidator must report to the Department for Business Energy and Industrial Strategy on the conduct of the directors. If misconduct is found, the government will carry out an investigation and if appropriate, will bring proceedings against one or more directors for disqualification for between 2 and 15 years, depending on the misconduct. For more information see: Director disqualification.
If you are faced with disqualification proceedings, it is vital that you seek legal advice at the earliest opportunity. Our team at Francis Wilks & Jones is one of the top rated teams in the UK for defending disqualification proceedings. Contact us if you require advice in this area.
What should I do as a company director in a company facing insolvency?
- don’t resign! Your duty is either to resolve financial difficulties, or to put the company into formal insolvency proceedings to safeguard creditors. Resigning from office does not remove your duties. If you raise concerns about the company’s position but the rest of the board repeatedly ignore you, then obtain your own legal advice before being able to safely resign. Make sure that your concerns are properly documented in the company’s books and records each time they are raised.
- keep a close eye on the company’s financial position at all times and make sure that management accounts and projections are prepared as frequently as required in order to determine whether the company is realistically facing insolvency.
- as soon as you are aware that the company is facing difficulties, it is important to take expert legal advice, both on your own duties, and to discuss solutions by way of company rescue. If rescue is not possible, then take advice on how to bring about an orderly formal insolvency. The team at Francis Wilks & Jones have many years of experience in insolvency and company rescue, and can talk you through the various options.
- make sure that your debt collection and credit control systems are working efficiently.
- Consider raising additional finance to assist cash flow if a rescue looks possible.
- Always record all board meetings and decisions carefully.
- Carefully consider whether repaying loans by directors or to connected persons might later be attacked as a transaction at an undervalue or a preference, and take advice if you are concerned.
- Shareholders should be warned not to overstep the mark and be reminded of the potential liability for wrongful trading as a shadow director if the company subsequently enters liquidation.
Please call any member of our team for your consultation now. Alternatively email us with your enquiry and we will call you back at a time convenient to you.
