Directors' duties and their personal risks when a company faces insolvency

Insolvency practitioner and head of Business Recovery Lucinda Coleman explains directors’ duties when a company faces insolvency.

The recent disqualification of a third Carillion director (there are more cases pending) serves as a reminder that limited liability is a concept that can be breached and, especially when a company is or might soon become insolvent, special care must be taken by directors.

Carillion is of course a high-profile case and the conducts cited in the government release (misleading statements in accounts and market announcements, unlawful dividends) are serious. Hence the application of longer disqualification periods of between eight and 12.5 years – the maximum is 15.

But it isn’t just large companies which where penalties can arise – we see examples in all sizes of company where directors’ have breached their duties. Typical issues are the abuse of Covid support schemes, taking money in advance for goods/services not delivered and retaining large amounts of HMRC monies for VAT and PAYE.

There are two potential consequences: disqualification and personal liability.

Director disqualification

In all insolvency cases the appointed liquidator or administrator is required to investigate the events leading up to insolvency and to do a report to The Insolvency Service.

The Insolvency Service will review these reports, if poor conduct is identified will carry out further enquires. They may then take action to seek a disqualification order for a period between two and 15 years. Whilst ultimately a matter for the Courts, it is more usual for an agreement to be reached by a disqualification undertaking (as it was for the three Carillion directors) so as to avoid the legal costs of a contested hearing.

Personal liabilities of directors

In general terms, a breach of duty by a director which causes loss to the company can give rise to personal liability. It has to be a fairly serious breach to pierce the corporate veil.

There are specific transactional Insolvency Act offences such as Preference (preferring a creditor to the detriment of other creditors) and Transaction at Undervalue (the clue is in the name) which fall into the serious category.

More general is wrongful trading.

What is wrongful trading?

Wrongful trading is allowing a company to continue trading beyond the point where the directors knew or ought to have concluded that there was no realistic prospect of avoiding insolvent liquidation. This is a hindsight judgment made by a liquidator who can seek a contribution from the directors for the losses incurred since they ought to have stopped trading.