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Limited Liability – Limited Protection

A number of recent Court decisions are a timely reminder, therefore, that the concept of limited liability was developed as a protection for those who invest capital in a business. The protection such status gives those who are actively engaged in running the business is only partial.

The partial nature of this protection is well illustrated by two recent cases in which the Courts have been asked, and have agreed, to award legal costs against the shareholders and directors of limited companies, where the company itself was unable to pay those costs.

The first case involved a husband and wife who were the only shareholders and directors of a company involved in proceedings transferred from the County Court to the High Court because of allegations made on behalf of the company that were ultimately rejected. The other party to the proceedings asked that the husband and wife be ordered pay the costs which the insolvent company could not pay. The Court agreed to make that order on the basis that the insolvent company was the husband and wife’s “vehicle”; they had funded the litigation, they were responsible for its conduct and they knew, or ought to have known, that if the company was unsuccessful in the proceedings it would be unable to pay the costs being incurred. What seems to have influenced the Court in reaching its decision was that the husband and wife had advanced money to the company to allow it to meet its own costs of the proceedings and the other party had in the course of the proceedings written threatening to seek an order for costs against the husband and wife if the company was unsuccessful. Neither of these factors are, however, unusual or suggest that the husband and wife were acting in some improper way.

The second case involved a company with a sole shareholder and director which appealed against a decision of a VAT tribunal. The appeal was unsuccessful and as the company was unable to pay the costs of the proceedings, HMRC applied for an order against the shareholder/director. The Court made the order sought on the basis that it was “just” to do so but the factors it took into account in reaching that decision appeared quite normal. The Court referred to the fact that the sole director/shareholder was the person who gave instructions in connection with the appeal, had a personal interest in it (through his shareholding in the company) and that there was no other interest on the part of the company in bringing the appeal other than to benefit the company and through the company its sole shareholder. Although the Court stated that one factor which would influence their decision whether to make a cost order in such circumstances was whether or not the sole shareholder/director had a genuine belief that his case was a proper one, is not clear to what extent in this case the Court felt he did not have that belief. Certainly there is no suggestion that the appeal was pursued notwithstanding advice from the company’s legal advisers that the appeal had no merit.

Whether they are shareholders or not, directors of limited companies, and by analogy the members of limited liability partnerships, always run the risk of incurring personal liability through their conduct of the company’s, or LLP’s, affairs. It is reasonably well known that such liabilities can arise in a situation where the company is insolvent, but perhaps less appreciated that they can arise in other circumstances as well. The recent case of Chandler v Cape Plc [2011] illustrates that such potential liability is not dependent simply upon the holding of the office of a director but rather arises from the exercise of control over a company’s affairs. This case concerned an asbestosis claim by an employee of a building products company which was the wholly owned subsidiary of a holding company. The holding company had a number of subsidiaries involved in the building products industry and dictated the corporate policy of those subsidiaries, though the subsidiaries themselves exercised their discretion as to how those policies were applied. At the time the asbestosis claim arose, the subsidiary concerned had long since been wound up and the claim was made, therefore, against the holding company. Because the holding company had been responsible for its former subsidiary’s health and safety policy (if not the actual implementation of it) and the inadequacies of those policies were found to have led to the employee being exposed to asbestos, the holding company was held liable for the employee’s claim.

The Court’s logic for reaching its decision was that the holding company owed a duty of care to its subsidiary’s employees. This duty of care did not arise simply because the employees were employed by a subsidiary but rather because the holding company had made decisions about the health and safety policy to be adopted by its subsidiary and it was foreseeable that if that health and safety policy was defective, the subsidiary’s employees would be at risk.

These cases highlight the need for all those who have control or significant influence over the way a limited company (or limited liability partnership) conducts its business, to consider whether insurance should be obtained rather than simply relying on the limited liability status to provide protection. Where the business involves significant potential liabilities, insurance would be a prudent protection.

October 2011

Girlings Corporate and Commercial Team

Please read the Terms of Website Use – Reliance on Information Posted before relying on this commentary. © Girlings Solicitors 2011 save as acknowledged.

Please read Reliance on information posted in our Terms of Website Use - see Legal section - before relying on this commentary.

Before relying on this commentary please read the Reliance on information posted section in our Terms of Website Use in our Legal section. Please note that specialist advice should be taken in relation to any specific queries and the information above is provided for general information purposes only.

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