Free money can be bad for your business’ health

November 22, 2021

If you’re unfortunate enough to be the director of a company in pandemic-related financial trouble, you’re likely to be focusing all your attention on keeping your business afloat, looking after your staff and minimising losses.

What about the personal risks to you as a director? Have you thought about the knock-on effects of continuing to run a company that may be insolvent?

What liabilities could you face if you’ve carried on trading when the company can no longer pay its debts?

Personal liability

If your company is put into administration or liquidation, you could face a number of uncomfortable and financially damaging investigations by the administrator or liquidator, including:

• breach of director’s duty
• clawback of dissipated assets
• wrongful/fraudulent trading

The consequences are stark, including personal bankruptcy, and disqualification as a director.

There could also be a potential criminal liability, fines and imprisonment, if you’re found guilty of fraudulent trading.

Dividend clawback

One issue directors of insolvent businesses could face relates to the payment of dividends.

Many small company directors pay themselves a minimal salary, taking most of their remuneration as dividends. If your company is liquidated, the liquidator will be able to recover dividends from the date you knew, or ought to have known, the company was at risk of insolvency.

It could be argued that if you put your staff on furlough / accepted one of the many government loans on offer you should have been aware that it was possible your company was insolvent. The administrator or liquidator could then try to recover the dividends you have paid out from this point.

Solvency statement

The best way to try and avoid such a claim by the administrator or liquidator would be to have your accountant prepare a solvency statement. Obviously, this will only work if the company is solvent but it would be useful if your business is straddling the fine line between being solvent and insolvent.

The solvency statement should confirm there were sufficient profits in the company to make the distribution at the time of the payment. It should be full and accurate, and based on recent year-end accounts.

The safest way to be paid for your duties as a director is by taking a larger salary (and fewer dividends). In most circumstances, the liquidator won’t be able to recover your salary (obviously, you need to make sure all tax and NI deductions have been correctly made).

Ask for help

To minimise your exposure to these kinds of claims from a liquidator, you should seek immediate expert legal advice as soon as you suspect your company is or might become insolvent.

It is also essential you take all steps to cease trading and ensure fellow directors, employees and shareholders do nothing to exacerbate losses to the company’s creditors.

For help and advice on your responsibilities as a director, particularly on how to structure remuneration to avoid clawback if your company faces insolvency, contact Alex Lyttle by email on alex.lyttle@tayntons.co.uk or call 01452 222340.