Are directors liable to repay dividends when the accounts they relied on are wrong?
Thursday 11th July

Having previously been to the Supreme Court, the case of Burnden Holdings v Fielding has now gone to trial and created even more new law.

At the heart of the case was the question of whether the directors, Mr & Mrs Fielding, were personally liable for breach of duty in causing  the company to declare dividends by reference to interim accounts which the Liquidator argued were both inadequate and contained errors. The interim accounts relied on consisted of only 2 pages, and the Liquidator argued that certain assets were over valued whilst certain liabilities were excluded .

Much of the judgment is taken up with considering whether the interim accounts were wrong or insufficient to enable the directors to make a reasonable judgment as required by section 270 Companies Act 1985 (now section 839 Companies Act 2006). The Judge decided that the accounts were sufficiently accurate to make the dividend lawful, but went onto consider whether Mr & Mrs Fielding might have been personally liable if that were not the case (e.g. the interim accounts were wrong and in fact the company did not have sufficient distributable profits).

There were three questions for the Judge to consider. Firstly, is the liability of directors in this situation strict or is it fault based? In other words, are directors automatically liable if it turns out the accounts are wrong and the company did not have sufficient distributable reserves. The Judge decided that liability is fault based.

Secondly, if a director’s liability is fault based, then what is the test for deciding whether the director is personally liable. The Judge decided that a director would be liable if

  • he actually knew the dividend was unlawful (though you don’t have to show fraud);
  • he knew the facts that established the impropriety of the payments (even if he didn’t realise the impropriety made the dividend unlawful);
  • he is taken in all the circumstances to have known the facts that rendered the dividend payment unlawful; or
  • he ought to have known, as a reasonably competent & diligent director, that the dividend payments were unlawful.

Thirdly, the Judge had to decide whether Mr & Mr Fielding would have been liable on this fault based approach. He said that they would not be liable.

The reason the case went to the Supreme Court is because the proceedings were issued more than 6 years after the dividend. A question arose as to whether the claims were time barred. The Supreme Court ruled that the usual 6 year limitation did not apply to breaches of duty from which the offending director had benefited. This was on the basis that the director was to be treated as a trustee of the company’s property & therefore under a continuing obligation to return it. Also, the distribution in question was an in specie distribution to a newly created intermediate holding company, which was then put into solvent liquidation as part of a wider reconstruction.

This was not the more usual case of directors/shareholders categorising payments to themselves as dividends.  Where such a company goes into liquidation, the question arises whether the liquidator can require a director/shareholder to repay the dividend, not because (as a director) he has acted in breach of his duties as a director, but because (as a shareholder) he has received a dividend which either the company did not actually have sufficient distributable profits to pay (even though he didn’t realise it)  or when the company was insolvent (e.g. the dividend can be challenged as a transaction at an undervalue)?

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