At BRI Business Recovery and Insolvency, we help companies through their insolvency process. One of the questions we are often faced with is “what happens to a director of a company in liquidation?”.
This is often a concern for the director, no matter what the size of the company or the industry they operate in. At BRI we are here to settle your concerns. If your business requires our assistance, contact us today for an initial free consultation today.
What are the primary concerns of a director of an insolvent company?
During the initial meeting between BRI and the company directors, first point of concern for directors is addressing how the current financial performance of the company will affect the company prospects of avoiding an insolvent process. Should it be established that an insolvency process is unavoidable; directors will understandably become concerned about how this will affect them personally.
When losing their main source of personal income (assuming they drew some form of remuneration from the company now entering an insolvency process), the director needs to be aware of other potential threats to their personal finances:
- Crystallisation of personal guarantees (PGs), often given when trade was going well, allow company creditors to recover funds from the director personally;
- A director’s loan account to the company becoming repayable – again, when times are good, directors often draw funds from a company and worry about how to account for the sums at some later point, but when an insolvency event happens, any drawings that are not salary may now be repayable to the company; and
- Claims made by the office holder against the director relating to some form of misfeasance.
To expand on the final bullet point a little, ‘misfeasance’ can be loosely interpreted more colloquially as wrongdoing. A director may believe that throughout the life of their company, they have always acted honestly and with integrity, but there are a number of misfeasance claims that can be made, which, prior to the insolvency event, a director was not aware were problematic. A good example of this would be ‘illegal dividends’, i.e. declaring dividends at a point when the company has insufficient reserves to declare them – a trap that is easier to fall into than one may think if a director regularly refers to drawings as dividends and isn’t completely on top of the point at which the companies liabilities have exceeded its outgoings.
Other examples include preference payments, transactions at undervalue and wrongful trading – all claims that can be made by office holders which each need their own article to explain more fully – but the main point is that the office holder is not seeking to prove malice or deliberate attempts at fraud, with most areas of claims what is actually proved is simply that a certain transaction took place at a certain time.
Duties of a director
The duties that a director has to a Company are defined in a number of places, the Companies Act 2006, within case law and a company’s articles. As if this wasn’t enough to contend with, when a company enters financial difficulty directors also have duties and obligations as laid out in the Insolvency Act.
If a company is insolvent, the director(s) have a duty to act in the best interests of the company creditors. This is similar but additional to the duty of ‘enhancing shareholder value’, which a director has at all times. Various case law in recent years has indicated that there is a sliding scale of which directors need to be aware when it comes to a company’s solvency, i.e. on the balance of probabilities, at what point should the director(s) have been aware that the company was insolvent and an insolvency event unavoidable and therefore at what point trading should have ceased trading. Separate articles regarding this sliding scale are available on the BRI website, but the main point here is that there are additional duties to be mindful of when a company is insolvent.
Can a director be punished if a company goes into liquidation?
It may seem natural to think that the biggest threat to a director when a company becomes insolvent is some form of punishment, via a disqualification or fine or in extreme circumstances, imprisonment. However, the reality is somewhat different, as long as a director has acted honestly and given consideration to their duties, then ‘punishment’ is unlikely to be a big concern post liquidation.
Within a liquidation or administration process, the appointed office holder (liquidator or administrator) has a legal duty to submit a report to the insolvency service (a Government department) via the Director Conduct Reporting System (DCRS). This reporting process now largely consists of providing DCRS with sufficient information so that a decision can be made as to whether any disqualification action should be taken against the director. Any such disqualification for directors lasts for a set period (between 2 – 15 years), with the severity of the punishment dependent on the severity of the director’s misconduct.
Please note that director disqualification orders are relatively rare (in the period April 2023 to March 2024, there were 1,222 disqualifications – the majority covid fraud related – against a backdrop of some 29,468 company insolvency events, with an average of 2 directors per company this means that roughly 2% of directors received disqualification orders in the period) and action from the insolvency service is unlikely to be a directors primary concern when their company becomes insolvent.
Directors – don’t panic
It is important to reiterate that most directors who have experienced a company liquidation, although potentially quite a distressing experience to have to see staff lose jobs, suppliers go unpaid and bruising to the ego to have a company ‘failure’ on the CV, at the end of the process it is actually a relief to have the matter resolved and to then proceed with the next chapter of their lives. Most will not have experienced a disqualification or claims against them so long as they have been dutiful and sought professional advice at the right time.
Here at BRI we understand that the issues summarised in the paragraphs above can get much more messy and complicated in real life (what precisely constitutes misfeasance? etc). We also understand how stressful and worrying this time may be which is why we are always willing to hold a free initial meeting with potential clients to discuss their business and understand the specific concerns they have.