Directors Are More At Risk Under New Small Business Regulations
The Small Business, Enterprise and Employment Act (SBEE) received Royal Assent on 26 March. With a number of changes being made to insolvency legislation, the risk to company directors is increasing.
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Three new amendments to be brought in could adversely affect directors whose company is struggling financially:
- Compensation Orders against disqualified directors to be made on behalf of creditors who have sustained material losses through director actions
- The Act allows for action to be taken against a director by an administrator, including actions following fraudulent or wrongful trading - formerly only available to liquidators
- Claims against directors can be sold or assigned to third parties, including suppliers, employees and other stakeholders
The introduction of compensation orders
The introduction of compensation orders via SBEE effectively amends some of the legislation within the Company Disqualification Act, 1986.
The Secretary of State will have the power to make a compensation order should the loss caused by director misconduct be identifiable, and considered to be material. The aim of this measure is to provide a stronger mechanism for creditors to be reimbursed if an administrator or liquidator chooses not to take action against a disqualified director.
This should result in more compensation for creditors, and greater confidence in the insolvency system as a whole. There will be a two-year time limit following a director’s disqualification in which to make the compensation order, with several factors being taken into account when deciding on the amount:
- The nature/seriousness of the director’s misconduct
- Amount of the loss sustained by the creditor
- Whether any financial recompense has already been made by the disqualified director
Directors will be given the option to make a compensation undertaking as an alternative to having a compensation order made against them. This is effectively an offer to pay a specified amount in compensation to the creditor, and is sent to the Secretary of State.
SBEE brings in the right for administrators to take action against a director for wrongful or fraudulent trading. This course of action was previously only available to liquidators. The new legislation reinforces the requirement for company directors to be aware of their financial position at all times, and to act accordingly, i.e. to place creditor interests before their own, or those of the company and shareholders if they suspect that the company might be in an insolvent position.
Claiming a lack of knowledge is no defence – taking on the office of director brings with it certain legal responsibilities in this respect. Proof that you have taken all possible actions to minimise creditor losses will be needed, plus professional advice and guidance should you face such allegations.
Prior to the new ruling regarding administrator action, a company had to be placed into voluntary liquidation in order for such action to be taken. Now, savings can be made in this respect, and the onus is placed squarely with directors to ensure their conduct is in-line with expectations of the office.
Third party claims against directors
The government’s aim to get the highest returns possible for creditors has led to the ability of liquidators and administrators to ‘sell’ claims against directors who have acted unlawfully, or whose actions have otherwise caused significant loss to creditors.
Assigning these claims to third parties is likely to result in more actions being taken against delinquent directors. Employees, suppliers, customers or other stakeholders feeling aggrieved by their financial losses could seize the opportunity to take the matter further, particularly if the Insolvency Practitioner is reluctant, or lacks the funds to do so.
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The reluctance by IPs to take action is often due to the level of evidence required to bring a successful claim, in conjunction with the risk of being unable to recover uncertain costs in such a case. But even if a single creditor had no inclination to take action, a group of creditors could combine to bring a case against the director(s), combining both funds and motivation.
If a single creditor was prepared and able to fund the action in its entirety, however, they would benefit from the full award should it be successful.
It is expected that the combination of these three amendments will mean greater risks for directors who fail to take appropriate professional advice.
Real Business Rescue can offer advice to directors facing this situation, or to those wishing to minimise the risk arising in the future.