What is wrongful trading?
Where a company goes into insolvent liquidation and, at any time before the start of the winding process, a director knew or ought to have concluded that there was no reasonable prospect that the company would avoid going into insolvent liquidation, and after that point the continuation of trading makes the company worse off.
For the purposes of wrongful trading, a liquidation is defined as insolvent if, at the time the company enters liquidation, its assets are insufficient for the payment of its debts and other liabilities and the expenses of the winding up.
Who is liable?
Wrongful trading can be one of the most worrying aspects of company insolvency for the directors, as it may impose personal liability on them. The concept of (and liability for) wrongful trading applies to anyone undertaking the role of a director, whatever their title and whether or not registered as a director at Companies House, so includes shadow directors. There is no need to show dishonesty on the part of the director for there to be a finding of wrongful trading.
The court may declare that the director is liable to make a contribution to the company’s assets. Any contribution is paid into the pool of assets available for distribution to the creditors. The court will not order a contribution by a director if the court is satisfied that, upon knowing there was no reasonable prospect that the company would avoid going into insolvent liquidation, the director took every step that he ought to have taken, with a view to minimising the potential loss to the company’s creditors.
How will the court judge a director?
The facts which the director ought to know or ascertain, the conclusions which the director ought to reach, and the steps which the director ought to take are those which would be known or ascertained, or reached or taken, by a reasonably diligent person having both:
- the general knowledge, skill and experience that may reasonably be expected of a person carrying out the same functions as are carried out by the director in relation to the company, or those that the director does not carry out but which have been entrusted to the director; and
- the actual general knowledge, skill and experience of the director in question.
What can directors do?
If directors are concerned regarding the financial position of a company there are a number of steps that should be followed:
- make sure all financial information is up to date and kept up to date;
- hold regular board meetings. All decisions should be documented in full, including why decisions have been made;
- be aware of financial covenants in lenders’ documents: legal charges, etc;
- remember that directors must consider the interests of the company’s creditors;
- keep up to date with the day to day business, so the directors become aware as soon as possible, for example, of increased pressure from creditors to pay and disputes with debtors;
- take legal and financial advice;
- as soon as a director becomes aware, or fears, that there is no reasonable prospect of avoiding insolvent liquidation, the matter should be raised with the board;
- further credit should not be incurred;
- if there is no reasonable prospect of avoiding insolvent liquidation the directors cannot simply walk away – one of the insolvency procedures must be put in hand;
- if one of the directors is concerned, but the remaining directors do not share the concern, then the director should take independent advice as soon as possible, as he may be able to resign as a director in protest.
Further Information
If you have any questions regarding the above or require additional information or assistance, please contact Ben Habershon Ben.Habershon@dixcartlegal.com or call us on +44 (0)333 122 0010.
