If you are a director of an insolvent company, Oliver Elliot can help you address your limited liability concerns arising from insolvency.
A limited company is a separate legal person from the individuals that either control or own it.
A limited company exists and is recognised in law as a separate legal entity.
How Does A Limited Company Exist?
A limited company exists by virtue of its Memorandum and Articles of Association.
The Memorandum Of A Limited Company
The Memorandum is the document in which the people who set up the company sign up to its existence. The Articles of Association are the rules governing the running of the company.
These two documents combined form the company’s constitution and give rise to its creation, otherwise referred to as its incorporation.
The Articles Of Association Of A Limited Company
The Articles of Association of a limited company control how the company is run in so far as laying down rules that must be complied with such as the powers of directors, calling of shareholders meetings, the voting rights of shares and the distribution rights of shares.
How Does A Limited Company Exist As A Separate Legal Person?
A limited company exists upon incorporation as a live entity that has no personality but for those individuals who control it. Upon incorporation, a limited company will be registered at Companies House.
What Is Limited Liability For A Company?
Limited liability for a company refers to the extent to which the shareholders or the directors are liable for the company’s financial losses. Unlike a sole trader or unincorporated business, individuals such as the directors and the shareholders will only be liable to the extent of the value of the shares they have in the business.
Limited liability applies to both companies that are limited by shares or limited by guarantee.
In the case of a company that is limited by shares, the liability of the shareholders is limited to the amount they have paid for the shares. In the case of a limited company that is limited by guarantee, the liability is limited to the amount set out in the Memorandum of Association.
Exceptions To The Rule On Limited Liability For A Limited Company
Whilst a general principle of limited liability exists to protect the shareholders and the directors from being personally liable for the company’s debts, there are exceptions to that rule.
This is because company directors have director duties and if they act in breach of their duties and as a consequence they cause the company to suffer losses as a result of neglect, or some other breach, they can be held personally liable for the losses suffered as a result.
Director Duties Upon A Limited Company Being Insolvent
If the company is solvent, then a breach of duty by a director may not necessarily lead to any personal liability at all. That is because a breach of duty by a director of a limited company, even one causing the company to suffer a financial loss, can be in effect forgiven by the shareholders. However, once the company is insolvent, then the duty of the directors is no longer simply to the shareholders but in fact the duty is largely superseded as one that is now due to the creditors.
It is fundamental that directors of limited companies do not confuse their duties to themselves with their duties to the company. In relation to the company’s dealings, the duty of a director is at all times to act in the best interests of the company.
Overdrawn Director’s Loan Account
An Overdrawn Director’s Loan Account is a position no different in principle to being overdrawn at the Bank. The difference is that instead of a Director owing money to a Bank, as you are overdrawn with the Company, you owe money to the Company.
If a Director was to lend money to a Company over and above what he or she owed the Company, then instead of it being an Overdrawn Director’s Loan Account, the Company would owe the Director money. This might be referred to as a Director’s Current Account or Director’s Loan Account in credit.
Wrongful Trading And Fraudulent Trading
Wrongful Trading and Fraudulent Trading are examples of conduct of directors, that are below the threshold expected of them. As a result in the case of wrongful trading, if a director of a company causes the company to continue trading whilst insolvent and knowing that the company cannot avoid insolvent liquidation, he or she can be personally liable for some or all of the company’s debts as a result.
In the case of fraudulent trading where the director’s conduct causes the company to engage in activities consistent with that of a fraudulent type of behaviour pattern, it is perhaps unsurprising that a director cannot avoid personal liability in relation to such losses as that conduct causes. A director cannot expect to engage in dishonest behaviour and then expect for it to be included within the safety of limited liability.
Personal Guarantees Provided By Directors
Personal guarantees typically arise when a director seeks funding for a company. The person lending the money to the company will be aware of the existence of limited liability and that if the company was to enter insolvent liquidation, that they are at risk of being unable to recover some or all of their money.
As a result, it is common in small or medium-sized companies for lenders to attempt to hedge their risk by calling upon the directors to provide a personal guarantee as security for some or all of the debt.
What To Do In Cases Of Financial Difficulty
In cases of financial difficulty, the obligations that arise as a consequence of directors’ duties means a director cannot hide behind the safety of limited liability and expect all will necessarily be forgiven if their conduct has fallen below that which is expected of a reasonable company director.
In every liquidation, it is a requirement for the Liquidator to undertake an initial assessment when investigating the company’s demise and the circumstances pursuant to which it entered insolvent liquidation.
Such an initial investigation focuses typically on whether or not there may be rights of action capable of improving the realisations that might be available for creditors. If such rights of action do indeed exist then directors could be faced with a position that they may be personally liable for some or in some cases even, all of the company’s debts. The latter position, however, is somewhat unusual but it cannot be ruled out and the safety of limited liability should not be assumed to cover directors in all instances.
It is imperative that when a company is insolvent a director seeks professional advice when continuing to trade in any circumstances in which there might be concerns about the viability of the business to continue for the foreseeable future and the risk of it entering insolvent liquidation. Transactions that are entered into after the point in which the company has become insolvent are always potentially capable of being subject to the scrutiny of a Liquidator in accordance with and office-holders obligations to investigate the company’s financial affairs and dealings.
What Next? How Can Oliver Elliot Help?
We have more than twenty years experience in helping directors deal with these situations so they can navigate these troubled waters that can arise when insolvency comes along. Our expertise is therefore at your fingertips. Contact Us for Free Initial Consultation. We can help!
This page ‘What Is Limited Liability Of A Company?’ is not legal advice and not to be relied upon as such. It is provided for information purposes only. No liability is accepted for any reliance upon it. You should seek independent professional advice on the discrete facts of your case.