10 Directors’ liabilities and voidable transactions

Question 1

The 2 formal insolvency procedures for insolvent individuals

Answer 1

• bankruptcy
• individual voluntary arrangement (IVA)

Question 2

What is an Individual Voluntary Arrangement (IVA)?

Answer 2

an arrangement under which a debtor makes a proposal for a compromise of their liabilities with their creditors.

Question 3

Advantages of Individual Voluntary Arrangement

Answer 3

• alternative to bankruptcy
• binds all unsecured creditors
• a moratorium is available if interim order is made

Question 4

disadvantages of Individual Voluntary Arrangement

Answer 4

• may last longer than bankruptcy
• cannot bind secured or preferential creditor without creditor’s consent
• can be expensive and time-consuming

Question 5

Bankruptcy order of priority

Answer 5

• secured creditors
• expenses of the bankruptcy
• preferential creditors
• unsecured creditors
• statutory interest
• debts of a spouse
• any surplus is payable to the bankrupt

Question 6

Bankruptcy discharge

Answer 6

bankrupt is released from most of the bankruptcy debts and the personal restrictions eg acting as a director, obtaining credit

after max period of one year

Question 7

What are voidable transactions?

Answer 7

transactions that take place in the lead-up to an insolvency process that may be set aside

Question 7

meaning of ‘connected persons’ and ‘associates’

Answer 7

‘connected persons’ - directors, associates of directors and associates of the company

‘associates’ - spouses, business partners, employees, relatives including brother, sister, uncle, aunt, niece, nephew, etc.

Question 8

The onset of insolvency - administration and liquidation

Answer 8

• Administration - date of filing of application (court procedure) or notice of intention to appoint or (if none) appointment (out-of-court procedure).
• Liquidation - date of commencement of winding up

Question 9

Transaction at an undervalue (TUV)

Answer 9

Type of voidable transaction and can either be a
- gift
- a transaction for a consideration at value at which in money or money’s worth, is significantly less in value than the consideration provided by the company

Question 10

Example of TUV

Answer 10

a company sells an asset worth £100k but only received £50k in payment

Question 11

When can a TUV be avoided?

Answer 11

• if TUV took place within the relevant time (in the 2 years ending with the onset of insolvency)
• it is provided by the application that the co was insolvent at the time of the transaction or became as a result of it

Question 12

Requirements to set aside a TUV by the court

Answer 12

• co entered into the transaction in good faith and for the purpose of carrying on its business
• transaction would benefit the co

Question 13

Transactions defrauding creditors (TDC)

Answer 13

type of voidable transaction
to enable the setting aside of a TUV

Question 13

Requirement for transactions defrauding creditors claim

Answer 13

1. there has been a TUV
2. the intention or purpose of the transaction was to put assets beyond the reach of creditors of the company or otherwise prejudice their interests.

Question 14

Who may claim a transaction defrauding creditors

Answer 14

1. liquidator or administrator
2. supervisor of a voluntary arrangement
3. victim of the transaction in question

Question 15

Why is TDC better than TUV

Answer 15

TDC claims can be brought in respect of a transaction that took place at anytime whereas TUV only concerned transactions entered into within 2 years

Question 16

Preferences by a company - purpose

Answer 16

• type of voidable transaction
  to prevent a creditor obtaining an improper advantage over other creditors of a company at a time when the company is insolvent

Question 17

Who can bring a preference claim?

Answer 17

• liquidator
• administrator

Question 18

When would a co give a preference to a person?

Answer 18

1.if he is a creditor of the company
2. the co does anything which has the effect of putting that person in a better position in the event of insolvency

Question 19

When is a preference voidable?

Answer 19

• it was given within the ‘relevant time’ - 6 months ending with the ‘onset of insolvency’ - can be extended to 2 years for connected persons or associates
• it is proved that the co was insolvent at the time of the transaction

Question 20

Preferences: connected persons

Answer 20

• rebuttable presumption that co was influenced by the desire to prefer a creditor
• preferred person must prove that the co was not influenced by a desire to prefer them

Question 21

Avoidance of certain floating charges

Answer 21

• to prevent a creditor obtaining a floating charge to secure an existing debt for no new consideration
• only applies on liquidation or administration

Question 21

when can floating charges be avoided?

Answer 21

• floating charge must have been created within the ‘relevant time’ - 12 months
• must be proved that co was insolvent

Question 22

When are new floating charges valid?

Answer 22

to the extent that ‘new money’ or other fresh consideration is provided to the company in return for the grant of the floating charger on or after its creation

Question 23

When would the directors of a company be personally liable in terms of trading?

Answer 23

• fraudulent trading
• wrongful trading

Question 24

Who can bring a fraudulent trading claim and how

Answer 24

liquidator or administrator
- making an application to court

Question 25

Who is a fraudulent trading claim brought against?

Answer 25

• any person who is knowingly party to the carrying on of any business of the company
• any person with intent to defraud creditors to for any fraudulent purpose

Question 26

What must be proven for a fraudulent trading claim to succeed

Answer 26

Actual dishonesty

Question 27

Remedies for fraudulent trading claims

Answer 27

contribution to the company’s assets as the court thinks proper

Question 28

Who can a wrongful trading claim be brought against? and by who

Answer 28

against a director by a liquidator or an administrator

Question 29

Purpose of wrongful trading

Answer 29

to ensure that when directors become aware that an insolvent liquidation is inevitable, they are under a duty to take every step possible to minimise the potential losses to the company’s creditors

Question 30

Meaning of wrongful trading

Answer 30

directors failing to make the right judgements about the company’s financial prospects and then failing to take steps to minimise losses to the creditors.

Question 31

Requirements for liability for wrongful trading

Answer 31

• co has gone into insolvent liquidation or administration
• director knew or concluded that there was no reasonable prospect that the company would avoid g90ing into insolvent liquidation

Question 32

Where would insolvency for wrongful trading be judged from

Answer 32

balance sheet test

NOT the cash flow test

Question 33

the ‘every step defence’

Answer 33

that directors took every step with a view to minimising the potential loss to the company’s creditors

examples:
- voicing concerns at regular board meetings
- seeking independent financial and legal advice

Question 34

‘reasonably diligent person test’

Answer 34

determines where liquidator or administrator has established that a director concluded that there was no reasonable prospect of avoiding an insolvent liquidation or administration

where directors then took every step to minimise the potential loss to the company’s creditors

Question 35

Remedies for wrongful trading

Answer 35

• court can order director to make such contribution to the assets of the company as the court thinks fit
• disqualification order

Question 35

Company D has a loan with ABC Bank which is secured by a fixed charge over certain assets of Company D. It also has a £20,000 overdraft with ABC Bank which is unsecured.
ABC Bank agrees to increase Company D’s overdraft facility from £20,000 to £30,000. This is on condition that Company D grants it a floating charge to secure the whole of the overdraft, to be taken over all assets not covered by the fixed charge. The floating charge is registered at Companies House. What advice would you give to ABC Bank about the validity of the floating charge if Company D goes into administration 3 months after the floating charge was created?

a) The floating charge was created within the relevant time. This means
the administrator could seek to challenge the floating charge if Company D was insolvent at the time or became insolvent as a result of granting the floating charge. If the administrator is successful, the floating charge will only be valid to secure £10,000 and not the full amount of £30,000.

b) The floating charge was created within the relevant time. This means
the administrator could seek to challenge the floating charge if Company D was insolvent at the time or became insolvent as a result of granting the floating charge. If the administrator is successful, the floating charge will only be valid to secure £20,000 and not the new increase to the overdraft of £10,000.

c) The floating charge was created within the relevant time. This means the administrator could seek to challenge the floating charge if Company D was insolvent at the time or became insolvent as a result of granting the floating charge. However, the floating charge will be valid to secure £30,000 provided Company D has paid £20,000 or more into its account since the creation of the floating charge.

d) The floating charge was created within the relevant time. This means the administrator could seek to challenge the floating charge if Company D was insolvent at the time or became insolvent as a result of granting the floating charge. If the administrator is successful, the floating charge will not be valid, and the overdraft will be unsecured.

e) The floating charge was created within the relevant time. This means the administrator could seek to challenge the floating charge if Company D was insolvent at the time or became insolvent as a result of granting the floating charge. If the administrator is successful, the floating charge will not be valid, but the overdraft will be secured by the existing fixed charge that the bank has.

Answer 35

C

Question 36

Give examples of potential warning signs which might prompt or should prompt a director to conclude that there is no reasonable prospect of the company avoiding insolvent liquidation.

Answer 36

• Continuance of losses
• Cash flow problems
• Increasing debt
• Evidence of increasing creditor pressure