WITH the credit crunch slowing the global economy, it is an appropriate time to consider the liability of company directors involved in wrongful trading. Directors of companies often make the mistake of believing that they are immune from liability for the acts of their company.
However, there are occasions in which directors can be exposed to personal liability for acts taken on behalf of a company. One such occasion is where directors allow a company to trade when they knew that there was no reasonable prospect of the company avoiding an insolvent liquidation. This is known as wrongful trading.
Wrongful trading occurs when a company’s directors continue to trade beyond the point where they ought to have concluded that there was no reasonable prospect of avoiding insolvency. Fraudulent trading occurs where the directors deliberately carry on trade with the intention of defrauding creditors.
It is a much more serious offence than wrongful trading and can lead to imprisonment on conviction. An action against wrongful trading can be brought against not only the formal directors of a registered business company but also against de facto directors, people acting as directors without actually being appointed, and shadow directors.
When looking at a potential wrongful trading action, the liquidator will attempt to establish the point at which the business became insolvent. This may be as simple as looking at the company’s accounts to see the point where it had net liabilities, or it may involve looking at key signs such as failure to file accounts, failing to operate VAT or PAYE schemes correctly and failing to pay VAT or PAYE when due.
In order to reduce the risk of facing a claim for wrongful trading, company directors should hold regular formal board meetings to discuss the business’s performance and position, and increase the frequency if circumstances require it; keep up to date and accurate financial records and review financial reports and forecast company board meetings.
Company directors should not delay raising any corporate issue with other directors of the company. Discussing issues at an early stage will enable the company to take relevant legal and financial advice.
It is not wise to let the company incur any substantial new liabilities unless they are essential and in the best interests of the company. On a flip side, it is not also advisable to resign to get away from any corporate issue because this will not absolve you of any potential liability.
As a director, you have responsibility to minimize the loss to your company’s creditors. If it seems that the company cannot continue to trade and meet its debts, contact professionals who can put the company into administration or liquidation.
Companies experiencing difficulty in paying debts should not continue to trade without considering the issue of wrongful trading. Ignoring the risk of personal liability is reckless and can lead to serious consequences.
Awareness and consideration of the points set out above is essential for any company director, especially during this economic downturn.
Happy Eugene Mukama is a lawyer