Understanding Directors’ Liabilities Towards Limited Company Debts
The question of whether and under what circumstances a director might find themselves liable for their company’s debts upon entering insolvency can quickly become a very pressing concern.
For obvious reasons, directors will want to know if they will be required to find funds from their own pockets to cover debts owed by their business. Unfortunately, there is no single answer to these questions and the extent to which an individual’s personal finances will be bound up with their company’s cash flow can vary a great deal. Here is our rundown of some of the key issues and concerns in this context.
In theory, there is nothing to say that an individual director will be legally obliged to cover their company’s debts as they officially enter insolvency. However, it is often the case that a money lender will demand that one or more of a company’s directors provide personal guarantees in support of their commercial loan applications.
The terms of these personal guarantees usually make clear that a loan is being provided to a company on the understanding that its directors will cover the debt in the event of the business becoming insolvent. Directors at small businesses often back up their applications in this way on the assumption that the spectre of insolvency will never emerge.
It’s an unfortunate reality though that business insolvency often comes as surprise to a given company’s directors, and where personal guarantees have been provided in support of business loans, the individuals will inevitably be left liable for the resulting debts.
A scenario in which a director has provided personal guarantees in support of a business loan and then seen their company become insolvent is a relatively cut and dry reason for personal liability towards company debts. There are, however, other circumstances that can lead to the same end result but which involve a good deal more contention and cause for legal scrutiny.
In essence, beyond personal guarantees, the other main reasons why a director might be left liable for their company’s debts upon insolvency will be because it can be proven that they have not acted correctly.
The reason for this is that directors in the UK are legally understood to have what are termed “fiduciary duties”. These duties dictate that when a company is insolvent a director must act in the interests of its creditors and not themselves. Any actions taken to the detriment of creditors under these circumstances are likely to be interpreted as improper actions that might lead to legal proceedings being brought against directors.
Directors of insolvent companies can find themselves liable to all or part of their company debts if they are found to have acted improperly. The following are examples of actions that can be considered as such:
- Using company money for purposes that are not related to the business in any legitimate way
- Conducting sell-offs of company property at lower than market value levels
- Payment of dividends to shareholders in non-legitimate or illegal ways
- Falsifying accounts information or otherwise lying to company creditors
- Arranging lines of credit that the company has no realistic chance of repaying
- Continuing to trade despite being insolvent
Taking every step
Underlying legislation that relates to issues around director liabilities for company debts is an assertion that directors are obliged to take every possible step to ensure that creditors can and will be paid money owed by an insolvent company.
Where a creditor or an insolvency practitioner can demonstrate and prove that a director has not taken every action possible to prevent a situation in which creditors are left unpaid then the director may become liable for those debts.
Getting the right advice
Every insolvency scenario is different and it is vitally important if you’re worried about the prospect of being left liable for your company’s debt to get advice as soon as possible. At Begbies Traynor we can call upon the expertise and experience of some of the UK’s leading insolvency practitioners and business recovery specialists.