At BRI Business Recovery and Insolvency, we work with companies in various industries when they are going through insolvency or have financial difficulties. One of the questions we are often asked is about directors and insolvency. What are a director’s responsibilities when a company becomes insolvent?
What are a director’s general duties under the Companies Act 2006?
To understand a director’s responsibilities when a company becomes insolvent, we can refer back to a director’s general duties under the Companies Act 2006. As a director, you must:
- Act within powers
- Promote the success of a company
- Exercise independent judgment
- Exercise reasonable care, skill and diligence
- Avoid conflicts of interest (a conflict situation)
- Not accept benefits from third parties
- Declare interests in proposed or existing transactions or arrangements with the company
From a practical point of view, a director is effectively an agent of the company who is appointed by the shareholders (or members) to manage the company’s day-to-day affairs.
Are there any other obligations and duties for a director outside the Companies Act 2006?
There are both common law principles and other legislation that place additional obligations on directors. Some examples include:
- A duty of confidentiality to their company (common law principle)
- Health and safety and environmental legislation
- Competition law and anti-corruption legislation
What if a director does not comply with these duties?
An application to Court can be made by the company, an individual director or a shareholder. Taking legal advice as soon as possible after the breach has occurred is advisable.
The Court has wide powers to either set aside or restore a transaction considered to be a breach of a director’s fiduciary duty. Some common examples might include:
- The director is to repay any “profit” made personally as a result of the breach
- Granting of an injunction preventing a transaction from proceeding
- Award of damages for the breach
Directors and insolvency: how do responsibilities change when a company becomes insolvent?
When a company becomes insolvent, the duty to promote the success of the company changes from being responsible to the shareholders (or members) to the directors’ primary duty to now act in the best interest of creditors.
From a practical point of view, a director’s responsibilities during insolvency include:
- Protecting all assets of the company (a key practical concern is to ensure that there is valid insurance coverage in place)
- Treating all creditors of the same class equally and not to “prefer” one creditor over another
- Not to worsen the position of the company’s creditors.
- Consult with an insolvency practitioner or a specialist insolvency lawyer.
Should a director breach their fiduciary duty, this would be considered as misfeasance.
What is misfeasance? And how is it related to director insolvency responsibilities?
Directors of companies are more than likely not aware of the term ‘misfeasance’ when they first get into business, especially as it’s defined under section 212 of the Insolvency Act 1986 (See below)
“A person who has misapplied or retained, or become accountable for, any money or other property of the company, or been guilty of any misfeasance or breach of any fiduciary or other duty in relation to the company.”
With any legislation, it often reads slight more scary than what it means in reality. If you adhere to the approach of taking steps that would be considered to be in the best interest of your creditors, then you are more than likely complying with your directors’ fiduciary duties.
What is the risk of misfeasance to a director?
If a company enters a formal process, a director may become personally liable for losses caused to creditors where misfeasance has occurred. This effectively means that their personal assets (including equity in their family home) are at risk.
The appointed insolvency practitioner is also required to submit a report to a specialist department within The Insolvency Service. Depending on the severity of the breach, The Insolvency Service may commence disqualification proceedings against a director, which result in personal fines and penalties.
Before it would get to this stage, of the insolvency process, the director of the company will be advised of the issues involved and given the opportunity to provide an explanation/information that supports their position.
What should a director do if their company is insolvent and they are concerned about breaching their fiduciary duty?
This article touches on the director’s duties and specifically the term misfeasance, but there are additional responsibilities a director should also be mindful of when making appropriate and informed decisions.
When it comes to understanding directors’ responsibilities, we recommend that you get advice as soon as possible from a licensed insolvency practitioner (like BRI Business Recovery and Insolvency) or a specialist insolvency lawyer who will be able to consider all available options. These matters can often be resolved amicably and without the need for a formal litigation process.
If you are a director of a company that is going through insolvency and you have questions or you need support, contact our team today.