Claims Against Directors
Entrepreneurs are vital to society and our aim is to help directors and business owners survive company failure so that they can continue with other business ventures.
Setting up and running a business is hard work, stressful and risky, with four out of ten new companies not surviving after five years. The risks that directors take have never been greater, with a concerted effort by Government and Insolvency Practitioners to take directors disqualification proceedings or bring financial claims against directors of failed companies.
We regularly help directors and shareholders of companies in difficulty. This may include advice on how to avert problems arising (for example, on structuring directors remuneration to avoid “clawback” if the company later enters an insolvency process) or help in defending financial claims. Financial claims can arise from a variety of sources including the Insolvency Practitioner (or “Office Holder”), HMRC, the company’s bank (in relation to a personal guarantee), or from the company’s landlord or suppliers.
There will be times when conflict of interest advice will be needed, and we can work alongside the company’s existing advisers to ensure independent advice is given in a constructive manner.
If you are a director of a company that is experiencing financial difficulties or faces the threat of the same, visit one of the links on this page. If you are faced with the threat of disqualification proceedings, visit our page entitled “Directors Disqualification”.
The Insolvency Practitioner
When companies get into difficulties, directors usually turn to the company’s accountants for help. They in turn will usually introduce an Insolvency Practitioner (IP) either from within their own firm or from an independent firm.
Whilst IPs are in a position to give good advice about the available options for the company, their involvement immediately creates a risk for the directors personally. This is because IPs can only advise the company, and matters discussed with the IP cannot be kept confidential if the company subsequently goes into administration or liquidation.
IPs are in business themselves, so if the company is destined for formal insolvency it is not surprising they will try to be appointed administrator or liquidator. The problem is that, once appointed, the IP has to carry out the statutory duties to investigate the company’s affairs, report on the conduct of directors, and take appropriate recovery proceedings.
It can be an uncomfortable experience for directors to find that their defence to financial claims by the IP has been undermined by information they gave to the same IP when the IP was advising the company. It is therefore a good idea for directors of distressed companies to take legal advice themselves.
The legal market is awash with lawyers who claim they can advise distressed companies, but in our experience very few lawyers give appropriate
Many fall at the first hurdle by setting up a retainer with the company, and then issuing a long list of things that the directors should not do. They also fail to appreciate that directors of an owner managed business (OMB)
- need different advice from that of a director of a private equity backed company, or a PLC; and
- are primarily concerned to rescue the business and, if that is not possible, to protect themselves and their assets so that they can start up the business again, begin a new business, or continue in other business ventures.
IPs will often recommend involving a firm of solicitors, which the IP is comfortable dealing with. The problem with this is that the IP will expect to use the same firm of solicitors once the IP has been appointed as administrator or liquidator. This leads to the solicitors being retained by the company, rather than the directors, and being constrained in the advice they can give to the directors.
We are one of the few practices that can give appropriate advice to directors. Our reputation in the insolvency marketplace means that IPs are comfortable with us. We can work in harmony with the IP whilst maintaining confidentiality in the advice we give the directors.
If we are retained by the directors before liquidation, we will not act for the IP if he is appointed liquidator so will be available to advise the directors in respect of any investigation or proceedings brought by the liquidator or Insolvency Service.
Our advice to directors includes advice on the risks that the directors face. This is dealt with in a tried and tested manner which is unique to Isadore Goldman.
Office Holder Claims
Once a company has gone into administration or liquidation, the Insolvency Practitioner (or “Office Holder”) will investigate why the business failed. Increasingly the focus of that investigation is to discover whether any financial claims can be made. We help directors respond to the investigation and protect them from saying things which they later regret.
Administrators and liquidators (IPs) will typically investigate three types of claim against directors:
- Repayment of the loan account or unlawful dividends
- Clawback of dissipated assets
- Wrongful trading
Repayment of the loan account or unlawful dividends
As a matter of routine, IPs will examine the company’s records to discover what monies have been paid to the directors. It is quite common for owner managed businesses (OMBs) to be operated in an informal manner which can come back to haunt the directors.
Frequently, the directors will have a low salary, dealt with through the company’s PAYE/NIC system, but will withdraw cash on a regular basis which they regard as part of their remuneration package – similar to drawings in a partnership.
Once the company has reached its financial year end, the directors expect the company’s accountant to advise how to account for those payments, typically as drawings/salary expenses or dividends. In the meantime, the cash withdrawals are usually recorded in a director’s loan account. It can come as a complete shock to directors when the IP demands that the directors repay the loans. Alternatively, if the payments to the directors are recorded as dividends and the company had insufficient profits available for the purpose of paying those dividends, they may also be reclaimed.
Clawback of dissipated assets
IPs will also look to see whether the company’s assets have been dissipated in the period prior to liquidation. If assets have been removed from the company without proper payment or other consideration, or if certain creditors (people owed money) have been paid in preference to others, then the IP will look to “claw back” those assets for the benefit of the general body of creditors. If a director has received the assets or the benefit of the preference, he will be the primary target of those claims. If the assets or benefit were received by someone else (e.g. a member of the director’s family or a company connected with the director) then the IP can in the name of the company bring a claim against the director for misfeasance or breach of duty (i.e. breach of the director’s duty to the company to act in its best interests).
If the directors have allowed the company to continue trading, incurring further liabilities to creditors, after the directors ought to have realised that the business will fail and go into liquidation, then the IP will consider bringing wrongful trading proceedings against the directors.
Funding these claims
What makes these claims different from other types of commercial claim is that the IP does not normally have to pay his lawyer’s legal costs for bringing the claim. Instead, the lawyers will usually be acting under an agreement which means they only get paid if they win the claim and recover monies from the director. The Government has also changed the law to make it easier for the IP to sell the claims. An IP also has access to a wide range of insurance products to protect himself from adverse costs Orders. This means a director facing such claims is at a considerable disadvantage, and great pressure is brought to get the director to settle the claim early.
When faced with any of these claims, it is vital for the director to take immediate advice from an expert who can help the director form a strategy for dealing with the claim. This will involve looking beyond the merits of the claim.
As a matter of routine, banks providing overdraft facilities and loans to owner managed businesses will require directors’ guarantees, sometimes backed up by security over the directors’ homes. Similarly, if the company is the tenant of business premises, the landlord will routinely require a director’s guarantee. Suppliers to the business and lessors of hiring equipment, such as plant, machinery or vehicles, will also frequently request a director’s guarantee.
The company’s failure can therefore cause directors huge stress especially if the guarantee is backed by a mortgage over the director’s home.
The director might be the tenant and share occupation with the company, leaving the director without an income stream to pay the rent or commercial rates. Alternatively, the director might be the landlord and the loss of the company as a tenant leaves the director without an income stream and the problem of having to pay the rates.
Increasingly, HMRC are looking to see whether direct or indirect claims can be brought against company directors where taxes, national insurance contributions (NICs), and penalties are left unpaid by the company. HMRC have a special unit that can issue a Personal Liability Notice against a director where the company has not paid over NICs and HMRC considers this is as a result of the directors’ negligence. Most recently HMRC have introduced a ‘Loan Charge’ that directors will be required to pay in respect of the use of certain tax schemes such as Employee Benefit Schemes (EBTs), Employer Financed Retirement Benefit Schemes (EFURBs) and ‘Loan Note’ schemes.
The information contained within this website is for information only and should not be construed as an accurate summary of the law or legal advice on any matter.
We are delighted with our write up in both Chambers & Partners and the Legal 500 this year: https://t.co/KVbJmzcAdd.21st Oct 2019 16:33:29
Congratulations to associate Sian Leonard who won the Rising Star award at the Insolvency Practitioners Association awards last week30th Sep 2019 10:15:18