What are the grounds of director disqualification?
Q: A man in the pub said I will be disqualified as a director if my company is insolvent or goes into liquidation. Is he right?
A: Of course not! However, if you act fraudulently, wrongfully or stupidly then you are at risk!
A director can be disqualified for a number of reasons, including wrongful trading, fraudulent trading or 'unfit' conduct. Failing to adhere to your duties as a director will result in an investigation and disqualification.
This guide is based on the Company Directors Disqualification Act 1986 (CDDA). It is a difficult subject matter, but a vitally important one for every director to consider when reviewing the company's insolvency and how they have acted with regards to it. Firstly, it is important to state that your company going into liquidation does not mean there is an automatic ban on directors. You can start another limited company, there is no automatic assumption of wrongful trading, and you do not automatically lose your house.
The CDDA Act contains little known but very significant powers, which seek to ban "unfit" directors from being directors of a limited liability company. This action is taken only when it is proven the director has acted wrongfully, fraudulently, or just very badly. The Government agency will first have to prove wrongful trading or "unfit behavior" before any action can be taken.
Since October 2015, the Small Business, Enterprise and Employment Act introduced further measures to disqualify directors who have run insolvent businesses in the past or have influenced other directors.
Directors can also be disqualified if they are involved in company offences abroad. The Act will amend the CDDA, giving a court more time (an increase of a year) to review evidence mentioned above.
Insolvency practitioners will also have more power to assign the benefit of causes of action for fraudulent trading. They must also present up front costs to creditors who need to approve the liquidation.
It should be noted that due to the Coronavirus pandemic, emergency legislation has been enacted that allows some relaxing in the rules surrounding wrongful trading. The idea is that directors will not be held personally liable if they continued to trade when the situation was so unclear going forward.
The relevant section below;
Suspension of liability for wrongful trading: Great Britain
(1) In determining for the purposes of section 214 or 246ZB of the Insolvency Act 1986 (liability of director for wrongful trading) the contribution (if any) to a company’s assets that it is proper for a person to make, the court is to assume that the person is not responsible for any worsening of the financial position of the company or its creditors that occurs during the relevant period.
(2) In this section the “relevant period” is the period which—
(a) begins with 1 March 2020, and
(b) ends with 30 September 2020.
There are of course exceptions as some companies have not been adversly affected by the pandem
What is unfit behaviour of a director?
These are the key points that the Department of Business Innovation and Skills (DeBIS) seeks to ban directors on:
- Failure to submit annual accounts and/or returns to Companies House on time
- Excessive salaries or drawings when the company was plainly insolvent
- Trading on when he or she knew the company was insolvent (trading whilst knowingly insolvent)
- Continuing to take credit when there was "no reasonable prospect" of creditors being paid
- Misrepresentation of the facts about the company
- Failure to respond or comply with a liquidator's requests
If any of the above points apply to you then you could be at risk!
How many directors get disqualified?
It should be noted that director's disqualifications are still relatively rare (there are only around 1,000-1,500 per year) however, with a special web site to stop rogue directors www.companieshouse.gov.uk continuing to act illegally and some high profile disqualifications such as the "phoenix four" and the Farepack directors, they are much more in the public domain. In the early part of this decade Government policy was also beefed up with the introduction of the Insolvency Act 2000 as part of that legislation was designed to speed up the disqualification process and increase the volume of directors disqualifications. In a "fast track" approach directors can admit they have acted wrongly in return for lower penalties.
So, for example, rather than take 3-5 years to proceed with actions by the state and then endure an 8 year ban, the director can elect to admit liability immediately for a smaller sentence like a 3 year ban. This has not really worked since then. The cost of taking action against directors is quite high and budgets need to be cut. So, we understand, part of this plan may lead to even lower numbers of CDDA disqualifications in the years ahead.
Important points to remember:
CDDA only applies where the company has gone into liquidation; it does not apply in a CVA. Usually company voluntary arrangements don't require any bans or even investigations into directors' conduct, so consider using that rescue mechanism first.
Directors can become personally liable for the "wilful failure" of their company to operate PAYE on their remuneration. Under s 71 of The Criminal Justice Act 1988 (Confiscation Orders 1996) and s 114 The Social Security and Administration Act 1992 it is possible for the court to confiscate a directors property as a consequence of such failure. The Court can make a disqualification order of between 2 and 15 years for unfit conduct.
KSA Group does not advise using liquidation or phoenixism to turnaround a viable company unless there are very exceptional circumstances. So if you are worried about wrongful trading, you can generally avoid any risk of disqualification by using a CVA. Where advice is required on the effects of trading whilst insolvent, directors becoming personally liable for a company's debts, the confiscation of director's property under the Criminal Justice Act or any other failure to observe a director's fiduciary duty, please contact us by email at firstname.lastname@example.org
What are the restrictions placed upon people when disqualified as directors?
If disqualified, a director may not act as a director or manager in the disqualification period, if he /she does so, that is a CRIMINAL offence!
The penalties are: conviction; imprisonment for up to 2 years, a fine or all. Plus the possibility of personal liability for ALL relevant debts of the company. An interesting point to remember is that; if a director or manager acts on the instructions of a person who has been disqualified then, they too may be made personally liable for the company debts. So beware of banned directors.
Be warned disqualification is a serious business. If you face disqualification proceedings take advice immediately from a well experienced corporate lawyer. It is vital to mount a defence if there are mitigating factors. We have good contacts with a number of law firms that specialise in defending disqualification actions. Contact Keith Steven now for a discussion if you are worried about CDDA issues.
Categories: Implications for Directors
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Please note that the guide was mostly written pre Covid-19 and there have been some changes to insolvency legislation that limits creditors actions and relaxes rules regarding wrongful trading. A new 20 day moratorium for distressed businesses has also been introduced.