Q: I have been told that it is an offence for a company to trade while it is insolvent. Is that right?

A:  No. Most companies encounter financial ups and downs and some do become insolvent before they recover. Often a recovery is effected without the need for any formal insolvency process to be employed and the outside world is never aware of the extent of the difficulties encountered.

What is an offence is for the directors to allow a company to continue trading while it is insolvent at a time when they ought to be aware that there is no prospect of the company avoiding an insolvent liquidation. This is called wrongful trading.

In such cases, if the overall position of the company’s finances deteriorates between the point at which the directors ought to have been aware that the company could not avoid insolvent liquidation and the time it actually goes into liquidation, a liquidator could make an application to the court for the directors to make a contribution towards the assets of the company.

However, if during this period the directors take steps to mitigate the loss to creditors and those steps are the steps that a prudent businessman would have taken, given the same set of circumstances, this could be the grounds of a successful defence against a wrongful trading action.

If your company is insolvent and you are concerned that it may go into insolvent liquidation, you should take professional advice from a licensed insolvency practitioner.

Q: I have been told that if my company goes into liquidation, I cannot be a director of a company with a similar name. Is that right?

A:  If you are a director of a company that goes into insolvent liquidation, you are prohibited from being a director or from being involved in the formation, promotion or management of a business with the same name or a name so similar as to imply a connection between that business and the company in liquidation, for a period of five years commencing on the date the company goes into liquidation. This prohibition includes a situation where the second business is run by a new company with a different name and trades under the name of the liquidated company.

Contravention of this rule is a criminal offence. Also, in the event that the second company subsequently fails, you could be liable for all of that company’s debts.

There are certain exceptions, so if you are contemplating using the same or a similar name to that of your old company in liquidation you should take authoritative professional advice. There are strict timescales involved in actions that need to be taken and advice needs to be taken before the first company fails.

Q: Can I buy the assets from my old company before it goes into liquidation and set the purchase price against the money the company owes me on my director’s loan account?

A:  No. Actually there is no point because the set off would be a preference and a liquidator would compel you to return the assets or demand that you pay the correct value into the liquidation.

It is however possible for you to purchase the assets from the liquidator following his appointment, provided you pay a fair market value that the liquidator can justify to the company’s creditors.

Q: I have seen websites that say, if my company is in trouble, I should never speak to an insolvency practitioner because he acts for my creditors and not for me. If that is right, why should I speak to an insolvency practitioner?

A:  Normally, the prime duty of the directors of a company is to its shareholders. When a company is insolvent, that prime duty is to the creditors. An insolvency practitioner will guide you to do what is right and help you to fulfil your duty. Anyone who advises you otherwise will be encouraging you to act contrary to your obligation to the creditors and you, not your adviser, will be responsible for any illegal acts that you commit.

Anyone giving such advice will usually be unregulated and possibly uninsured, so you may have little recourse against them in the event that you do suffer a loss as a result of following their advice.

Insolvency practitioners are members of probably one of the most heavily regulated professions in the United Kingdom and have to comply with rigorous standards, including carrying sufficient professional indemnity insurance.

Q: If my company goes into insolvent liquidation or administration, will I be automatically banned from being a director.

A:  No. A liquidator or administrator (office holder) has a statutory obligation to file a report within six months of the date of his appointment with the Insolvency Service. This report refers to the conduct of the directors for the period (usually up to three years) prior to the commencement of the liquidation. The Insolvency Service may on the basis of this report take action to disqualify a director, if it believes that it is in the public interest to do so. Unless and until this action is taken and the Insolvency Service is successful in disqualifying a director, he is free to act as a director of any other company.

Be assured that the role of the liquidator in making his report is to be objective. He is obliged to report on matters that come to his attention during the normal administration of the case. Early on in this administration, he will ask you to complete a detailed questionnaire, asking you about your role in the company and a number of other questions relating to your involvement in management of the company.

The office holder cannot however discuss the contents of his report with you or any creditor of the company

Q: How will I know if the Insolvency Service is likely to take disqualification proceedings against me?

A: If after the Insolvency Service receives the office holder’s report, it is decided to commence proceedings, they will contact you as part of their investigation procedure to establish whether they believe you should be disqualified.

This could happen any time up to two years after the liquidation commences although it is often much sooner and in many cases, well within one year. You will be given the opportunity to put your side of the story to them.

Q: How does it work? Will I have to appear in court?

A: It is rare these days for disqualification proceedings to end up in court, unless there is an irreconcilable difference between the view of the director and the Insolvency Service. In extreme cases, proceedings do go to court, but a director should always be mindful of the fact that if he loses, he pays not only his own legal costs but those of the Insolvency Service also.

Most cases are settled by agreement between the Insolvency Service and the director, who gives an undertaking not to be a director of a company for a specific number of years (between two and fifteen).

Be aware however that in the event that an undertaking is given, any subsequent breach is viewed with extreme severity.

Q: I have heard people talk about directors being guilty of misfeasance. What does that mean?

A: Misfeasance is another word for breach of fiduciary duty or trust. We mentioned earlier that when a company is insolvent, the directors’ duty is to the creditors. If the directors take action that breaches that duty by for example, taking funds out of the company for their own benefit rather than using it to pay creditors, that is a misfeasance and a liquidator is empowered to recover those funds from the director.

Q: What is a preference and what is the difference between that and a fraudulent preference?

A: The Insolvency Act 1986 abolished the concept of fraudulent preference and replaced it with preference. A preference is a payment or series of payments made to a creditor at a time when the company is insolvent, or the company becomes insolvent as a result of the payments being made, and where the payer is influenced at least in part by a desire to place that creditor in a better position than he would otherwise have been, had the company gone into liquidation or administration before the payment had been made.

Where the payment is made to a party connected with the company the element of desire is assumed and the onus of proof is on the person receiving the payment. A liquidator or administrator is empowered to recover preferences from the recipient of the payment.