Civil Recovery Claims by a Liquidator/Administrator

In the last edition of For Business we examined directors’ disqualification proceedings against the backdrop of querying whether being a director of a limited company really protected you from incurring personal liability.

In this article we look at civil recovery claims brought by a liquidator/ administrator against directors of the defunct company, as well as other third parties.

When a company goes into liquidation or administration, the insolvency practitioner (the “IP”) appointed to deal with the failed business is under a statutory duty to investigate the affairs of the company, including the conduct of its director(s). That duty extends to identifying any claims which may result in increasing the assets of the company for distribution to the company’s creditors.

Typically, the IP will be interested in the following types of claims:

• Overdrawn directors’ loan accounts
• Unlawful dividends
• Transactions at an undervalue
• Preference payments
• Misfeasance (ie. a breach of a fiduciary or other duty owed to the company)
• Transactions defrauding creditors
• Wrongful trading
• Fraudulent trading

We will now examine some of the more common claims that IPs bring against directors.

Transactions at an Undervalue
A transaction at an undervalue (TUV) is essentially either a gift or a transaction from which the company either receives nothing in return or significantly less than the value of that which it has provided.

The IP has the power to apply to court for an order putting the company back in the position in which it would have been had the TUV not taken place. To bring a claim, the TUV must have occurred within two years of the company entering administration or liquidation.
The IP must demonstrate that the company was unable to pay its debts at the time of the TUV, or became unable to pay its debts as a result but where the transaction is with a “connected person” (eg. a director, shadow director or associate of those people or the company) then, unless the contrary is shown, the law presumes that these conditions are satisfied.

If the company can demonstrate that it entered into the transaction in good faith, for the purpose of carrying out its business and for the benefit of the company, then the court may not make an order reversing the transaction.

Preferences
If a company goes into administration or liquidation and, prior to doing so, does something which puts one or more of its creditors or guarantors in a better position than they otherwise would have been, this may constitute a preference.

An example would be a company repaying a creditor 90% of the amount it owed before going into insolvent liquidation in which creditors are paid, say only 25p in the £1. The creditor it has paid is better off because, if the company had not made that payment, the creditor would have received considerably less than what it was owed in the liquidation.

The preference payment must have taken place within 6 months of the company entering administration or liquidation unless the transaction was with a “connected person”, in which case the period is extended to 2 years. The IP must demonstrate that the company was unable to pay its debts at the time of the preference payment, or became unable to pay its debts as a result of that payment. The key element of a preference transaction is that the company has to have been influenced in deciding to give it by a desire to produce, in relation to the recipient, the improved position outcome described above. Where the preference is given to a connected person then, unless the contrary is shown, the law presumes the company was influenced by such a desire.

Misfeasance
Misfeasance describes the situation where a director of a company, has misapplied or retained the company’s money or property. It also includes breach of any fiduciary duty in relation to the company. It is best summarised as a remedy available to an IP in the course of winding up a company where a director or shadow director has failed to act in the best interests of the company (or, if the company is insolvent at the material time(s), its general body of creditors).

A director may be able to argue that they should be relieved (whether wholly or partly) from liability if they acted honestly and reasonably and ought, in the circumstances, fairly to be excused.

An IP must commence their claim within six years of the date of the act of misfeasance. Therefore, it is possible that by the time a company enters into liquidation, an IP may only have a short period of time in which to identify the misfeasance claim and commence proceedings.

These are only very simple explanations of the kind of claims that an IP may bring against a director of a company and third parties. If you would like more information or advice about these sorts of claims, please contact Kevin Sullivan or Simon Loome on 01206 217376 or [email protected].