A company becomes insolvent when it cannot pay its debts as and when they fall due, or when the value of its liabilities (debts) 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. No longer should you be working to promote the company’s success for the benefit of its shareholders, you must instead act in the best interests of the company’s creditors by doing everything within your power to minimise their financial 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 ensure you adhere to them during times of insolvency, and the potential consequences if you don’t.
As a company director, once you become aware that your business is insolvent, your duties and responsibilities change. You must now focus on maximising the interests of your creditors and shielding them from any further losses. Usually, the best way to do that is to cease trading immediately to prevent the accumulation of further liabilities, however, depending on the position of the company, trading may be allowed to continue.
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.
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’).
As a director, as soon as you are aware your company is insolvent, you must 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 know your company is insolvent or have reason to believe it is heading that way, 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 and adhere to your legal duties.
Cease trading
An 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. Always follow the advice of your insolvency practitioner when it comes to trading during insolvency.
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 in favour of others, or repay a loan a director has secured with a personal guarantee ahead of unsecured debts.
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 some cases of fraudulent trading, you can even receive a prison sentence.
There are three examples of director misconduct the Insolvency Service will look for:
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 consultation or arrange a meeting at one of our 100+ offices throughout the UK.
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If you are considering liquidation for your company, taking expert advice at an early stage is crucial. At UK Liquidators, our team of licensed insolvency practitioners are committed to providing limited company directors with the help and advice they need to make an informed decision.
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