What are a director’s responsibilities when their company is insolvent?

A company becomes insolvent when it cannot pay its debts when they become due, or when the value of its liabilities on the balance sheet is greater than its assets. 

If you reach a point where your company is insolvent, your legal duties and responsibilities as a company director shift. Rather than promoting the company’s success for the benefit of its shareholders, you must act in the best interests of the company’s creditors by minimising their losses. Failure to do so could lead to serious legal and financial consequences.

Here we outline the responsibilities of the directors of insolvent companies, the practical steps you can take to meet them and the potential consequences if you don’t. 

How do a director’s duties change when a company is insolvent?

As a company director, once you become aware that your business is insolvent, or reach a point where you should know it’s insolvent, your duties and responsibilities change. You must now maximise the interests of your creditors by reducing the amount of debt the company has that it will not be able to repay. Usually, the best way to do that is to cease trading immediately to prevent the accumulation of further liabilities. 

If you think your company could be insolvent, you should seek professional advice from a licensed Insolvency Practitioner. They will assess your financial situation and advise you on the most appropriate next steps. In some cases, continuing to trade may increase the return for your creditors.

Depending on your circumstances, an Insolvency Practitioner may also explore your options to rescue the company. For example, if the company is struggling with debt repayments but is otherwise viable, a formal insolvency procedure called a Company Voluntary Arrangement (CVA) could help you get back on track. An Insolvency Practitioner will also help you follow the relevant insolvency rules and meet your legal obligations. 

Who has a legal duty to protect creditor interests?

When a business is insolvent, It is not only the registered directors of the company who are responsible for minimising creditor losses. This legal duty also applies to anyone who takes part in important decision-making, controls the direction of the business or instructs the registered directors (known as a ‘shadow director’). 

What are the responsibilities of insolvent company directors?

As a director, as soon as you are aware your company is insolvent, you must observe the insolvency rules and act according to your legal duty to maximise the interests of your creditors. In practical terms, you must:

Seek professional advice

As we’ve discussed, if you believe your company is insolvent or think it could be but are unsure, you should seek professional advice immediately. An Insolvency Practitioner will advise you on your next steps and explain what you must do to protect your creditors’ interests.

Cease trading

The Insolvency Practitioner will usually advise you to cease trading to prevent further losses to your creditors. If you continue trading and the company subsequently enters Liquidation or Administration, you could increase the debts to unsecured creditors, such as suppliers, landlords and HMRC, that the company cannot repay. 

Preserve company assets

To act in the best interests of your creditors, you must take steps to preserve company assets until it is decided what route the company will take. That includes safeguarding physical assets, such as property, vehicles and stock, protecting intangible assets like intellectual property and websites, and collecting any debts owed to the company. 

Treat all creditors equally

When insolvent, company directors must treat all their creditors equally and not prioritise one over the other. That means the directors cannot transfer assets to connected creditors, pay a key supplier to maintain goodwill or repay a loan a director has secured with a personal guarantee. 

What are the consequences if you ignore your director’s responsibilities when insolvent?

You could face severe penalties if you do not meet your legal duties when the company is insolvent and the business subsequently enters a formal procedure such as Liquidation or Administration. The Insolvency Practitioner who administers the procedure must submit a report to the Insolvency Service on the conduct of the directors. That report covers the insolvent period and the previous three years of trading. 

The Insolvency Service will examine the report and look for any mismanagement. If it finds you have not met your legal duties, you can be made personally liable for company debts and be disqualified from acting as a director for up to 15 years. In cases of fraudulent trading, you can even receive a prison sentence.   

There are three examples of director misconduct the Insolvency Service will look for:

• Misfeasance - You can be accused of misfeasance if you breach your duties as a director in relation to the company. You can be made personally liable to repay any losses the company subsequently makes for the benefit of your creditors.
• Wrongful trading - Wrongful trading occurs when you continue trading and worsen your creditors’ position when you knew or should have known the company was insolvent. Directors often continue trading in an attempt to save their companies and that can get them into trouble. 
• Fraudulent trading - Fraudulent trading is a serious offence that occurs when a director operates an insolvent company with the intention of defrauding their creditors. Common examples include taking a large salary or paying dividends the company cannot afford, securing lines of credit you cannot repay and using company money to fund personal interests.

How we can help

If your company cannot pay its debts or you’re worried it could become insolvent, please contact our team at your earliest opportunity. At UK Liquidators, we can assess your company, advise you on your options and guide you on the best course of action while ensuring you meet your director’s duties. Get in touch for a free consultation or arrange a meeting at one of our 100+ offices throughout the UK.