Changes To Insolvency Legislation Due to Coronavirus

The impact of the coronavirus (COVID-19) is currently being felt all over the world not only from a health point of view but the strain that is being placed upon the world economy. The economic impact has been unprecedented and Anthony Guterres, the Secretary General of the United Nations, recently stated that the current coronavirus outbreak is the biggest challenge for the world since World War II. He said it could bring a recession, “that probably has no parallel in the recent past“. His warning came amid dire predictions about the possible economic impact of measures imposed to fight the virus. Many countries, including the United Kingdom, face not just a recession but potentially a depression. In the UK household names such as Debenhams have been placed into administration with many other businesses and individuals facing insolvency.

The Chancellor of the Exchequer, Rishi Sunak, has made substantial funds available to different sectors of the UK economy to try and assist in softening the blow of the Coronavirus.

The UK government recently announced new insolvency measures to prevent businesses unable to meet debts due to the impact of the Coronavirus from being forced into insolvency. Alok Sharma, the UK business secretary, said that the wrongful trading law would be suspended to protect directors during the pandemic.

Section 214 of the Insolvency Act 1986 states, “ If in the course of winding up of a company it appears that: the company has gone into insolvent liquidation and at some point before the commencement of the winding up of the company that person knew or ought to have concluded that there was no reasonable prospect that the company would avoid going into insolvent liquidation and that person was a director of the company at that time. The court, on the application of the liquidator, may declare that that person is to be liable to make such contribution (if any) to the company’s assets as the court thinks proper unless the court is satisfied that that person took every step with a view to minimising the potential loss to the company’s creditors as he ought to have.”

With the problems that the UK faces the coronavirus pandemic, many directors would find themselves in breach of section 214. As a result, this section has for the time being been suspended.

However, this should not be seen as an indicator that all personal liabilities for directors now do not exist. It is important for directors to understand how to properly and lawfully extract funds from the company during this time in order to avoid other personal liabilities in the event that their company in the near future is placed into any kind of insolvency process.

There are currently three ways in which directors can normally extract funds from a company, these are as follows: –

1. By way of a salary through the payroll;
2. By way of dividends;
3. By way of director’s loans.

Directors must be careful in relation to remuneration and personal liability.

The safest way currently for directors is to receive payment via a salary. As long as the company continues to trade the directors can receive reasonable salaries according to market rates.

Directors should be extremely careful about taking remuneration by way of director’s loans from the company. If the company subsequently falls into some sort of insolvency process it is highly likely that payments taken by way of director’s loans by the directors may well be challenged. These payments may be challenged in two different ways:

1986. a) Preferences pursuant to section 239 Insolvency Act 1986. These are payments made by the company to a director at the time when it was insolvent and there was a desire to prefer the party who received the payment.
1987. b) Misfeasance pursuant to section 212 Insolvency Act 1986. This is where a director beaches his fiduciary duty to the company and causes a loss to the company. He may be personally liable to pay the amount of that loss.

It would be extremely difficult to argue that the payment of director’s loans was not a preferential payment.

In relation to dividends, this may be considered unlawful and subject to clawback if:

– The company did not have sufficient distributable profits to make the dividend; or

– The payment of those funds left the company insolvent; or

– The company had not taken proper steps to declare the distribution in accordance with the appropriate legislation.

If a director has any doubts about extracting funds from a company, the safest method currently is by way of a salary in line with market rates for his role.

There may well be further changes to the insolvency legislation during this pandemic. If there are, we will continue to provide the relevant updates.

In these uncertain times it is highly recommended that if directors are in any doubt about the insolvency of their company, personal liabilities or any other issues relating to insolvency matters they should seek professional advice urgently.

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If you require any advice in relation to this article please contact:

Shahid Miah – [email protected]

Tajinder Barring – [email protected]

0207 416 6745

28 APRIL 2020