Wrongful and Fraudlent Trading 10 FAQs

Here you can download our Wrongful And Fraudulent Trading 10 Frequently Asked Questions answered booklet. An example of the useful information you can find in the booklet is featured below.

Introduction

Directors’ fiduciary duties are owed to various stakeholder connected to a Company. Under the Companies Act 2006, a Director has a fiduciary duty to promote the success of a Company and, for most Companies, this mainly refers to the interests of shareholders by way of increased profits (and therefore increased dividends).

However, all Companies must be run fairly with consideration paid to other parties, including employees, customers, creditors, the tax authorities and the public interest generally. In certain circumstances, the duties to these parties may conflict with the interests of the Company itself and a failure to deal with creditor claims properly can lead to claims against Directors.

This Article attempts to explain and provide commentary in circumstances where a Director is (or may be) faced with a claim by an appointed Liquidator for Wrongful Trading or, in more serious circumstances, Fraudulent Trading in respect of such breaches of a Director’s fiduciary duties.

Section 117 of the Small Business, Enterprise and Employment Act 2015 (passed 26 March 2015) brought in changes which will enable an appointed Administrator to bring these proceedings but (as of writing) these amendments have not yet been introduced.

1. What Is Wrongful Trading?

Wrongful Trading is a statutory term for the civil offence under Section 214 of the Insolvency Act 1986 which enables a claim to be made against the Company’s Director(s) in the following circumstances:

(a)    Where the Company has been placed into an insolvent liquidation; and

(b)    Where, prior to commencement of the winding-up proceedings, the Director knew or ought to have concluded that there was no reasonable prospect of the Company avoiding an insolvent liquidation.

Accordingly, the claim for Wrongful Trading is one which tends to “look back” at past matters and penalise directors for continuing to trade a company where it could reasonably be foreseen (whether or not it actually was) that the Company was unlikely to avoid being placed into an insolvent liquidation.

There is no definition or any specific circumstances which describe a Wrongful Trading situation – this is intended so as to enable all types of misconduct (intentional or reckless) to be considered as part of any such claim, which is compensatory in nature and intended to restore assets to the Company that would otherwise have been available by way of a reduced deficiency (i.e. either more assets or less creditor claims).

The claim for Wrongful or Fraudulent Trading is a pervasive theme of all claims in insolvency proceedings, i.e. it emphasises the statutory requirements for Directors to act differently where a Company is insolvent or heading towards insolvency, when their emphasis should be placed on creditors’ claims rather than shareholders’ interests.

2. What Is Fraudulent Trading?

Fraudulent Trading is far more serious and overlaps with Criminal Law. Section 213 of the Insolvency Act 1986 enables a claim to be made by a Liquidator against a Director where the following is demonstrated to have occurred:

(a)    Where the Company has been placed into an insolvent liquidation; and

(b)    There is evidence that the business has been carried on with an intent to defraud creditors or for a fraudulent purpose.

Fraudulent Trading is also distinct from Wrongful Trading such that the claim may be brought against “any persons who were knowingly parties to the carrying on of the business” and so it is no excuse for an individual to claim s/he was not listed as a Director.

Section 993 of the Companies Act 2006 makes similar provisions except that it is a criminal offence potentially punishable by imprisonment for a period of up to ten years. Whilst the burden for proving criminal allegations (as opposed to a civil claims) is much higher, the consequence of an Order in these terms will be very severe.

3. How Can I Tell If I Am Trading In Breach Of The Wrongful Or Fraudulent Trading Provisons?

Ultimately, these type of claims are determined at a much later stage when a Liquidator is appointed and some evidence may not have survived the Liquidation process.

For Wrongful Trading, as a Director you have to consider whether any decision is:

(i)    Incurring further debt due from the Company; and

(ii)   Whether it is in circumstances that the Company is likely to be failing.

If the answer to both of the above points is positive, then as a Director you could be liable to repay all such further debts incurred.

Allegations of Wrongful Trading will often depend on the specific circumstances and they may well be based on a false interpretation of events. in addition, they will often be geared to the proposed Defendant’s personal knowledge, qualifications and role within the organisation and almost always will be largely reliant on documentation that is retained by the Company or 3rd parties.

Wrongful Trading is not easy to identify at the time, but the best test is perhaps to seek 3rd party input on the situation (for example from the Company’s accountants).

Fraudulent Trading should, in theory, be something the Director, shareholder or “person” is already aware of. Examples may be where deposits for goods or services are taken from customers where no orders have been placed with suppliers or where it is obvious that there is no intention that the Company will ever honour a contract entered into.

A finding of Fraudulent Trading is very serious and is indicative of circumstances where an individual uses the benefit of a limited liability Company for wrongdoing and in contravention of the interests pf customers / creditors, potentially for the purpose solely of gain.

4. How Do I Protect Against A Wrongful Trading Claim?

As stated above, and in reality, it is often difficult to look at justifying Company decisions at the time and in circumstances where the Company may be struggling or under pressure.

Although there is no magic formula to preventing such potential claims, a Director making a decision where the Company is insolvent or looks to be heading into Liquidation (even possibly) should ensure adherence to the following:

(i)     Make sure all Directors jointly make decisions in respect of any substantial transactions;

(ii)    Make sure all Directors’ decisions are minuted, which should include justification for a decision;

(iii)   Ensure that all Directors are aware of any trading difficulties, bad debts or other circumstances which may affect the Company’s going concern status and that the decision to continue trading is minuted together with the reasons;

(iv)   Ensure that no one Director (unless the Company has only a single Director) controls a specific area of the business which is unsupervised at Board Meetings. Management accounts and reports for such areas should be provided by each and every Director who has sole day-to-day responsibility;

(v)    Ensure all creditors are treated equally, in terms of the priority of payment of their debts and the amount paid;

(vi)   Keep detailed management accounts so that the Company’s financial position can be assessed at any given time;

(vii)  If ever unsure about the decision to continue trading, obtain independent professional advice.

IN ORDER TO FIND OUT MORE ABOUT THIS SUBJECT AND THE ANSWERS TO THE QUESTIONS LISTED BELOW, DOWNLOAD OUR HANDY TIPS BOOKLET HERE.

ALTERNATIVELY, CONTACT THE TEAM ON 020 7841 0390

5. What Defences Exist To A Wrongful Trading Of Fraudulent Trading Claim?

6. What Period Does Wrongful Trading Refer To?

7. The Statutory Defence To Wrongful Trading

8. What Is The Punishment For Wrongful Trading And Fraudulent Trading?

9. Will The Recovery Not Just Reduce My Personal Guarantee Of The Debenture?

10. What Are The Other Effects Of A Wrongful/Fraudulent Trading Claim?

Should you require any further assistance at all with these matters, then please contact one of our corporate specialists on 020 7841 0390 and we will be happy to discuss this with you.