Keith Tully considers the impact on directors of an increase in administrator and liquidator powers.

The Small Business, Enterprise and Employment Act 2015 introduced several changes to insolvency law, including an increase in administrator and liquidator powers, which is of particular concern to directors.

If a business experiences financial problems and enters insolvency, directors’ risk of personal liability is now greater, as is exposure to risk of litigation by creditors.The risks under the new law are either a claim being made by the administrator (rather than a subsequently appointed liquidator) or by a creditor or third party who has taken an assignment of the cause or causes of action.  

The amendments were brought in to protect creditor interests in cases where director conduct is questionable. The effect of the new law is to make it easier for a claim to be made against a delinquent director or directors, but not to introduce new causes of action.

Accusations of wrongful or fraudulent trading

Administrators may now bring proceedings against company directors if they suspect fraudulent or unfit conduct has taken place in the time leading up to insolvency. Prior to the new legislation, only liquidators could begin proceedings for fraudulent or wrongful trading.

Administrators suspecting wrongdoing had to either transfer the case for liquidation, or bring an action of misfeasance against the director(s). Misfeasance means that a director has failed in their duty of care to creditors, and although their actions were not unlawful, they will have breached civil law and should have acted differently in office as company director.

The distinction between wrongful and fraudulent trading can best be made with a couple of examples:

• Wrongful trading suggests mismanagement, rather than a deliberate attempt to defraud, and could include failing to pay company tax liabilities and file statutory returns.
• A case of fraudulent trading may be brought if a business has been allowed to continue trading, even though directors knew that suppliers or members of staff would not be paid.  

Assignment of claims against directors

Cases for fraudulent and wrongful trading can now also be assigned to third parties. Unsecured creditors, either individually or as a group, are able to make claims against directors, where previously, only office holders could bring these types of case, and only in their own name.

As well as cases for wrongful and fraudulent trading, the ability to assign claims also applies to preference and transactions at undervalue. Showing preference to a particular creditor, or selling assets below their market value, are both likely to be investigated if the company becomes insolvent.

The issue for directors is that a new compensation mentality may be encouraged, which could signal the start of an entire industry in which claims firms’ sole aim is to make a profit (though claims are unlikely to be straightforward).

Are many creditors likely to take on these claims?

If creditors blame company directors for their significant financial loss, motivation may be there to seek recompense through the courts. Additionally, the cost of bringing a case would be diluted if a group of creditors took action together.

In the past, unsecured creditors may have felt overlooked in the insolvency process, as their position near the bottom of the creditor hierarchy for payment generally resulted in minimal, if any, pay out. Motivation to seek redress is therefore likely to be high in these cases, with company directors in the direct firing line.

About the author

Keith Tully is partner at Real Business Rescue, part of the Begbies Traynor Group. Keith has over 20 years' experience of advising company directors facing the threat of insolvency.