Overview Of The Risks Of Going Into Liquidation

Anyone who suggests that there are no risks for a Director if their company goes into insolvent Liquidation is in all likelihood being overly optimistic.

Death and Taxes are the only certainties in life.

If you are a Director of a company that has gone into or is going into insolvent Liquidation there is inevitably some risk. However, do those risks arise due to the Liquidation procedure or were those risks already there at the point of Liquidation? As ever it depends.

It is worth noting that a Director who tries to avoid Liquidation may also be at risk as we shall see.

If a company goes into Liquidation the Directors are no longer in control of the company. A Liquidator is appointed who acts instead of the Directors and who in effect takes charge of the company guided by the Insolvency Act 1986.

This means that a third party, who the Directors cannot have instructed at least within the last three years, due to ethical and independence regulations and who is often unknown to the Directors if they have not been down the Liquidation path before, will take over the company and can have a significant role to play in the experience that Directors will have of the Liquidation process.

Misfeasance And Breach Of Duty

A Liquidation is occasioned by a Liquidator undertaking decisions, many of which are commercial considerations that involve deciding how to realise certain assets of the company and also what to do about any transactions that appear capable of being challenged. Transactions capable of being challenged may well be those that do not seem to be in the best interests of the company or its creditors and perhaps more so, seem to be for the personal benefit of the Directors.

The risk to a Director of going into Liquidation after entering into such transactions is therefore that a Liquidator could bring legal proceedings against a Director and seek for compensation to be paid to the company in Liquidation for the loss arising as a result. Such legal proceedings are commonly referred to as liability for misfeasance and breach of duty by a company Director.

Such proceedings could arise from a Director who has caused or permitted the company to enter into transactions that give rise to an Overdrawn Director’s Loan Account or where Directors/Shareholders have received Unlawful Dividends. The effect of Liquidation could highlight the insolvent status of the company and make it less likely that a Director could successfully argue that the overdrawn loan account or unlawful dividends were a result of transactions that occurred at a time when the company was solvent. This could prevent the same from being successfully ratified by the company’s shareholders.

However, the effect of Liquidation may merely highlight such a risk that exists in any event. For example, if the Directors were to be replaced then such transactions could be reviewed by the new Directors ie. there is no actual need for a Liquidation for this risk to arise.

There are in essence two key ways that a Liquidator might challenge transactions that a Director has entered into. Either the Liquidator can direct that the company itself takes legal action against the Directors or the result of Liquidation is that there are new risks that a Director may need to consider. New risks can arise because Liquidation itself creates new ways for a Liquidator to challenge historical transactions.

Preferences: Risks Of Going Into Liquidation

If a company is insolvent and goes into insolvent Liquidation, then any transaction that has been entered into in the two years prior to the commencement of Liquidation that has led to the Directors or persons close to them who might satisfy the test of being connected or associated, being placed in a better position than they otherwise would have been, had such a transaction not arisen, could result in the recipient being liable to account to the company in liquidation for what is known as a Preference.

Transaction At Undervalue Risk Of Going Into Liquidation

The same position can arise in relation to any transaction during that two-year period prior to commencement of insolvent Liquidation that appears to give rise to a loss suffered by the company from assets or money being transferred out of the company for less than their market or monetary value. Such transactions are known as Transactions At An Undervalue.

As a result, the person who has received the benefit of the transaction at undervalue could be called upon by the Liquidator to repay the same to the company in Liquidation.

Wrongful Trading: Company Director Risk Of Going Into Liquidation

Wrongful Trading is the act of trading whilst being aware that a company has no reasonable prospect of avoiding insolvent Liquidation and failing to take every step to ensure that the losses are not minimised. If there is a failure by the Directors to take every step to minimise the losses, then as a result of the Liquidation the Directors responsible could be personally liable to compensate the company for the loss they have caused during a period of Wrongful Trading.

Director Disqualification

A Director of a company that has gone into insolvent Liquidation can be at some risk of being disqualified. In all Liquidation cases, the Liquidator or the Official Receiver will consider the conduct of the Directors. Reports will be provided to the Insolvency Service who may decide to prosecute a Director if in its view it is in the public interest.

The risk to a company Director, therefore, is that they might be unable to continue acting as a Director for a number of years as a result of a declaration of unfit conduct.

Directors Who Are Also Creditors Of The Company

Directors who are owed money by their companies risk losing their unpaid debts along with all the other creditors if the company goes into insolvent Liquidation. With the exception of any preferential element to their claims as creditors, Directors rank as unsecured creditors. Therefore if there is no dividend to unsecured creditors then they will not recover their money in full.

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