How to minimise the risk of being disqualified
As a director of a limited company, you can trade with the privilege of limited liability. As a result, you also have to be mindful of the many duties you have to everyone you deal with on a day-to-day basis. A director of a company in financial difficulties has even stricter duties, to ensure that the company’s creditors suffer as little as possible leading up to a liquidation or administration. A failure in those duties can have serious repercussions if your company becomes insolvent, with the potential for personal disqualification as a director for up to 15 years.
What is the directors’ disqualification regime and when might you be caught under it?
The directors’ disqualification regime is a process instigated by the Insolvency Service, which is an arm of the Government. It was brought in to protect the public from directors involved in insolvent companies who are guilty of misconduct.
This regime is aimed at improving public confidence. It is intended to be a deterrent to directors who have run a company badly and then chosen to put their company into liquidation or administration. These scenarios typically leave behind creditors who have no chance of being paid, whilst the former director opens up a new company the next day with no thought to those unpaid creditors.
How does the process work?
The liquidator or administrator of every company that has gone into insolvent liquidation or administration must, by law, submit a report to the Insolvency Service within three months. That report may point out potential areas of misconduct against one or more directors.
The Insolvency Service will then carry out its own investigation and as a result may bring a claim against a director for misconduct. During the course of their investigations, the Insolvency Service will usually contact the directors themselves for questioning, often by way of a questionnaire. It is at this stage that you, as a director, have the opportunity to put forward sufficient information to persuade the Insolvency Service not to take the matter any further, or perhaps at least to minimise the allegations brought against you. If you receive a request for information from the Insolvency Service, you should take legal advice as soon as possible to ensure that you put forward your best case to try to avoid the matter being taken any further.
If the potential claim cannot be dealt with pre-action, the Insolvency Service will notify you that they are soon to issue a claim in court. You will have an opportunity to accept a disqualification by way of an undertaking, or to allow the claim to go to court so that you can defend yourself. Once the matter is issued in court, you open yourself up to the risk that you will have to pay the costs of the Insolvency Service if you are subsequently disqualified.
There are other types of disqualification that come about from court proceedings, for example if you are involved in criminal proceedings, but these are not so common and for our purposes we will discuss the standard director disqualification regime here.
What type of behaviour is considered misconduct?
The behaviour that can be caught under this regime is not not described in detail in the statute. However, broadly speaking, the types of behaviour that are covered are:
- any breaches of the duties you owe as a director to the company; and
- when a company faces financial difficulties, breach of the duties owed to the company’s creditors.
An example of misconduct that is frequently encountered is when directors move assets out of the business, and do not obtain proper consideration for those assets back into the business. This might be because the assets have been transferred at an undervalue, to a connected company or directors, or for no value at all.
Another example might be when directors pay themselves or those connected to them in preference to their creditors. This might happen when a director is aware that the company is unlikely to survive, so they repay money which they (or family members) have lent to the company. Alternatively, they might repay a bank overdraft over which they have given a personal guarantee to avoid the guarantee being called in.
In the post-Covid era, many directors are being disqualified in relation to Bounce Back loans which were taken out to assist their businesses during the pandemic. This could result from mis-declaring their turnover when taking out the loan, or for misuse of the loan, or often both. The Insolvency Service are keen to pursue these directors and we are often seeing disqualification orders over 10 years.
Failure to keep sufficient books and records for the company is frequently an aggravating factor in a disqualification order.
Who can be disqualified?
Any director may be caught under these proceedings. This includes not only registered directors, but also shadow directors or de facto directors.
- A shadow director is a person who effectively directs a company from the wings, but does not register as a director at Companies House.
- A de facto director is a person who holds themselves out to be a director, so on the face of it the public believes they are a director.
Any registered director, de facto director or shadow director of a company that has gone into insolvent liquidation or administration can be disqualified. If you were a director previously but resigned, you can still be disqualified for your conduct during your time as a director. Directors are expected to have control of their company and know what is happening, so ignorance of misconduct happening in the company is not a defence, unless you were very deliberately kept in the dark.
What is the impact of disqualification on a director?
A director can be disqualified for anywhere between 2 and 15 years, depending on the misconduct found.
It is also possible for the Insolvency Service now to claim money from a director if the misconduct relates to money that should have stayed in the company, but did not due to the misconduct.
How can I continue to act as a director if I have been disqualified?
It is possible for a director who is disqualified to apply to court for permission to act as a director in a specific company, despite being disqualified. You will need to show why you need to be a director of that company (rather than an employee) and why the company needs you to be a director (as opposed to another person). For example, sometimes your name is key to the continuation of a company and jobs may be saved as a result of you being allowed to continue as director of that company.
In order to be successful, you will also need to show the court why the behaviour that led to your disqualification will not happen again. Sometimes this might mean certain conditions are put in place. For example, if your accounts were not kept properly, you may have to agree to engage an accountant to oversee the accounts process.
This type of application to court can be very successful in allowing you to continue to be a director of a particular company despite disqualification.
How we can help
If you receive correspondence from the Insolvency Service investigating your directorship of an insolvent company, it is important that you do not ignore them and take immediate legal advice. Early responses can often persuade the Insolvency Service not to take their investigation any further. Even if not, we can help with defending or mitigating your position to ensure the least impact on you going forward.
For further information, please contact Rebecca Beynon-Phillips in the dispute resolution team on 01733 882877 or email [email protected].
Rebecca Beynon-Phillips LLB (Hons), Partner
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