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  • Wrongful Trading Suspension: Does it Create a False Sense of Security?
News 3
22
Apr
Wrongful Trading Suspension: Does it Create a False Sense of Security?
News

DATED: 22 APRIL 2020

Dispute Resolution team

The UK Government announced on 28 March 2020 that it intends to implement a number of measures aimed at protecting companies affected by COVID-19 and their directors, as they try to provide further assistance to businesses during the pandemic.

The intention behind the temporary measures is of course to reduce insolvency levels and to allow otherwise viable businesses to trade through the crisis. This approach is to be applied even though potential insolvency considerations must be at least a factor, if not the overriding one, in any decision making process at this time.

The measures include the temporary suspension of wrongful trading rules for a period of three months (applying retrospectively from 1 March 2020), in an effort to reassure directors that the difficult decisions which they will undoubtedly have to take about the future viability of their businesses throughout these exceptional circumstances (which are entirely beyond their control) will not have a detrimental impact on their potential personal liability for creditor debts.

Under existing legislation (the Insolvency Act 1986) the wrongful trading test arises when a company director/s continue to trade at a time when they knew or ought to have known that there was no reasonable prospect that the company would avoid going into either insolvent liquidation or insolvent administration. Individual directors can be held personally liable if it is shown that there has been a failure to make decisions with a view to minimising the potential loss to the creditors of the company in such circumstances. One obvious concern for directors in the present circumstances is knowing the extent to which a company is going to be adversely affected by the COVID-19 pandemic where there is no certainty as to when the current restrictions may come to an end.

The proposed legislation surrounding wrongful trading is on the Government’s priority list for when Parliament reconvenes on 21 April 2020 and it is being suggested that the legislation will be published at the earliest opportunity. However, the change in legislation should not lull directors into a false sense of security.

A false sense of security?

In the context of a solvent company the vast majority of the statutory duties imposed on company directors are owed to the company and to its members. In an insolvency situation however it is the interests of the creditors of the company which take precedence. The result of this is that an appointed liquidator or administrator has an obligation to assess the director’s decision making processes in the relevant period leading up to the (insolvent) liquidation or administration of the company.

COVID-19 is undoubtedly going to severely impact the way in which many businesses operate and the decisions directors make to keep their businesses trading. The Government clearly wants to try to alleviate some of these issues, perhaps by disregarding imminent ‘cash flow’ concerns arising out of the current COVID-19 crisis during a specified ‘relevant’ period.

However, it remains clear that company directors must continue to carry out their statutory duties as far as possible, including monitoring their company’s financial position, maintaining accurate management accounts and up to date forecasts, holding regular (remote) meetings and keeping accurate records of decision making (full board minutes) together with details of the information relied on in support.

Any future insolvency scenario will certainly not escape scrutiny and may yet leave directors vulnerable where they cannot demonstrate that effective decision making processes were in place, including a regular assessment of the ongoing impact of the current crisis on their business. It perhaps also goes without saying that directors of companies that were already in financial difficulties prior to the affects of the COVID-19 crisis being felt should take early advice on their position as this is unlikely to be assisted by whatever measures the Government decides to implement.

Debt Recovery

Take timely legal and accountancy advice

Directors are therefore encouraged to take appropriate legal and accountancy advice where necessary and at an early stage. The clear indication is that a liquidator/ administrator (as well as the Court) will be obliged to take this into account in assessing any potential culpability during this unusually difficult period. As an aside it is also recommended that directors should continue to have ongoing discussions with creditors (many of whom will themselves be experiencing similar issues and concerns) where appropriate.

Directors should remain mindful that all the other ‘checks and balances’ which are in place to ensure that they fulfil their duties remain in force.

If you are in any doubt about any of these issues or your obligations or duties generally please contact David Mallinson, Head of Dispute Resolution who will be happy to advise.

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.

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.

Authors

David Mallinson

Head of Department
Dispute Resolution

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