Risks for Directors and Directors Disqualification Proceedings

One of the major benefits of a company is that it exists as a legal entity in its own right, and so ordinarily, its liabilities will not extend to its directors. In certain circumstances, however, this standard rule will not apply and a director can become personally liable for company debts. In addition the conduct of a director in office can result in proceedings being taken against a director under the Company Directors Disqualification Act 1986.

We at Berry Smith LLP regularly advise directors in relation to matters relating to their companies and how they can minimise the prospect of claims being brought against them. We also advise directors and former directors were they have been notified that disqualification proceedings are being pursued against them.

What potential risks apply to directors?

There are a number of risks that apply to directors. In the event of a company failing it is possible that directors are accused of wrongful or insolvent trading. This can result in civil legal claims being brought against them for a contribution of losses to a company.

In addition, it is possible for disqualification proceedings to be brought against someone as a consequence of actions taken by them as a director of a company.

What steps can be taken to protect directors?

Under the laws of England & Wales, companies can indemnify their directors against certain types of financial loss arising from an allegation made against them while acting in their capacity as a director. Ideally, an indemnity of this kind should be outlined within the company’s constitutional documents. Of course, to be of effect the company providing the indemnity needs to remain in existence to meet the indemnity obligation.

It is also strongly advisable that the company has a directors’ and officers’ liability insurance policy (“D&O insurance”) in place. D&O insurance is designed to protect directors and officers of a company from losses resulting from claims made against them in relation to the discharge of their duties.

A company is allowed to purchase insurance for its directors against any liability attaching to them in connection with any negligence, default, breach of duty or breach of trust by them.

What are the risks of a claim under the Company Directors Disqualification Act 1986?

On the failure of a company, the liquidator is required to file a report dealing with the reasons for the failure of the company, and whether there is any conduct by the directors that can be attributed to the failure of the business, or other behaviour that falls below the standard expected of directors.

In order to take action it is necessary for it to be considered to be in the public interest that a disqualification order is made.

This conduct can include allowing a business to continue trading when it can’t pay its debts, not keeping proper accounting records or sending accounts and returns to Companies House, paying tax or using company money for personal benefit. It can also include a failure to follow contractual requirements relating to debentures for example, or an alleged mis-use of grant monies.

The Insolvency Service may investigate the company or the director and can write to a director or former director indicating that it is considering action under the CDDA 1986. Once notified the director has opportunity to respond to the allegations.

Following the investigatory process the Insolvency Service can decide not to proceed, or can indicate that it will proceed and offer the director the opportunity to enter into an undertaking to cease to act as a director or in the management of a business for a prescribed time. If that offer of an undertaking is not followed then court proceedings can follow, where an order disqualifying a director for a certain period will be pursued. Those proceedings can be defended by the former director and ultimately a judge would decide whether such an order was justified.

What advice do directors and former directors require in such cases?

If allegations are made they need to be properly considered. Often the Insolvency Service will only have part of the story available to it, and there are issues of context and explanation that can be provided. This often involves providing documentation and detail to answer criticisms that are made.

Even if the areas of criticism cannot be dealt with in entirety, it can be possible to seek to reduce the period of any disqualification that is sought.

In cases where there is a defence to criticism, or in cases where the director needs to be able to continue to be engaged as a director or in the management of other businesses, it is necessary to prepare and file evidence in court proceedings.
We regularly advise directors in these cases. The advice and representation needs to include legal knowledge and commercial experience.

How long can a period of disqualification last?

The period can last up to 15 years. There are different brackets of disqualification that depend on the seriousness of the issues encountered.

If there is a breach of such a ban, there is a criminal penalty of a fine or imprisonment of up to 2 years.

What are the effects of a ban?

The usual form of order that is granted not only prevent someone from acting as a director but extends to that person acting in the management of a business. This issue is often not fully understood at the outset. The consequences of a ban are therefore serious.

In addition, it is possible that directors can be liable for personal compensation orders once disqualified.
A disqualified director will also be listed on the Companies House database of disqualified directors. Often the Insolvency Service will seek publicity in the area where the former director is banned to advise the public of the action.

Should directors accept undertakings?

The Insolvency service can suggest that the former director agrees to enter into a form of undertakings, to prevent substantive court proceedings being brought. The nature and effect of the undertaking is in essence the same as a court order.

In some cases agreeing to an undertaking can make sense. However, the duration and effect of the undertaking need to be fully understood.

The duration of the undertaking period will depend on the assessment of the wrongdoing by the Insolvency Service. In some cases it is possible to get this period reduced by explanation of some of the issues that have been raised.
It should also be appreciated that once an undertaking is given, that any breach of the undertaking can result in proceedings being taken against the former director and this can include criminal liability. Entering into undertakings should not be done lightly. In addition, it is still possible that there may be liability for a compensation order.

Does a disqualification order or undertaking mean that a director cannot act as a director or in the management of other companies?

Essentially yes. However, a former director can operate a business on a personal basis (not in a limited company). It is also possible to apply to the Court for permission to continue to act as a director or in the management of a particular company. Such an application usually needs to put in place safeguards to satisfy the Court that a repeat of the issues previously encountered will not be repeated.

We have acted for directors who have succeeded in obtaining the permission of the Court to continue to act in these circumstances.

This is an area of law that often requires detailed consideration of issues and an analysis of legal and factual matters. We advise clients in relation to these matters and if you want to discuss our services on an initial no obligation basis