The Department for Business, Energy and Industrial Strategy (BEIS) has announced plans to suspend the wrongful trading provisions in the Insolvency Act 1986 for a period of three months from 1 March 2020.
The coronavirus pandemic has created exceptionally difficult conditions for businesses: demand is down, payment times are up and bad debt is increasing.
After dealing with the immediate problems caused by the pandemic and the government’s response to it, many directors of struggling businesses will ask themselves whether the business can or should keep trading. The company might need to (or be forced to) enter insolvent liquidation if its current assets are less than its liabilities and/or it is unable to pay its debts as they fall due.
If a company continues to trade despite that fact the directors know or ought to know that there is no reasonable prospect of avoiding insolvent liquidation, the directors would (ordinarily) become liable for wrongful trading.
The consequences for a director of being found liable for wrongful trading are that:
- They will be personally liable to make a financial contribution to the company, so that the company may pay something to its creditors. The size of that contribution will be determined by the court; and,
- They may face disqualification from acting as a director of any company for up to 15 years.
The suspension of wrongful trading is designed to ease the pressure on directors running their businesses whilst technically insolvent, by removing the spectre of personal liability for continuing to trade. The government hopes to minimise the damage done to the economy by ensuring that, in so far as it can, businesses that were viable before the pandemic can ride out the storm and once again become viable businesses after it.
That does not, however, mean that directors are given free rein to ignore the interests of the company’s creditors.
A director owes a personal duty to the company to promote the company’s success. In fair times that means acting in the interests of its shareholders. When a director knows or ought to know that there is no reasonable prospect of avoiding insolvent liquidation that duty shifts from acting in the interests of the company’s shareholders, to acting in the interests of its creditors.
The duty to protect the interests of a company’s creditors when the company is technically insolvent looks set to remain despite the government’s proposed changes to insolvency legislation.
If a company does enter insolvent liquidation it will be for directors to prove they took all reasonable steps to minimise losses to creditors. A failure to do so could render a director personally liable for any losses caused to creditors that could have been avoided.
If a company carries on business operations with the actual intent of deceiving and defrauding its creditors, which includes stripping the company of its assets so that they are not available to creditors, then the directors will be personally liable for breach of duty, fraudulent trading and/or misfeasance.
The suspension of wrongful trading provisions will not wipe the slate clean if a company was wrongfully trading before 1 March 2020. It remains to be seen whether directors could still be liable for any extra loss to creditors caused by continuing to trade during the pandemic, if trading should have ceased before that date.
The following is some practical advice for directors to ensure they can prove compliance with their duties to the company and to its creditors during the pandemic:
- Have complete records for everything. A liquidator (and possibly the court) will be interested in what was known when. Having accurate information about this is, therefore, vital. Keep minutes of all meetings and decisions
- Show your working. Minute not only decisions themselves, but the factors weighed up in coming to those decisions. This leaves no room for misinterpretation later down the line
- Continue regular board meetings regarding the financial viability of the company and the impact of decisions on creditors. Though this will be more difficult during the lockdown, it is unlikely this will be seen as sufficient reason to not hold regular board meetings. Use virtual communication and conferencing in order to achieve this
- Obtain accurate financial information and forecasts for the company.
- Take both legal and accountancy advice where appropriate. Advice not only assists in the operation of the company, but it also shows a commitment to run the company properly and in accordance with one’s duties
- Obtain professional advice on the availability of government assistance
- Minimise the further debt incurred by the company in so far as is possible
- Enter sensible credit agreements – entering into unfair and extortionate credit agreements just to try and stay afloat is never helpful in the long run, and such transactions can be challenged by a liquidator
- Rigorously collect and chase debts. Cash flow will be key to the survival of businesses, and being lax on collection of debts could potentially be seen by a liquidator or the court as a breach of duty
- Treat creditors fairly. Giving preferential treatment to one creditor over another can lead to personal liability for a director. A liquidator can also challenge such transactions taking place within a period of six months before the date of insolvency, being extended to two years if the preferred creditor is connected to the company
- Get a fair price. Any transaction at an undervalue entered into in the two years prior to insolvency is subject to challenge
- Don’t deprive creditors of assets. Entering into transactions to hide or move assets out of the reach of creditors will be seen as defrauding those creditors. Such transactions can be challenged and a director will become personally liable for any loss caused to creditors.
For more information and to find out how we can help you, please contact our Commercial and Property Litigation Team on 0345 646 0406 or fill in our online enquiry form and a member of the Team will be in touch.