Prohibition on the use of corporate directors

Prohibition on the use of corporate directors

Who really controls companies? Implementing the ban on corporate directors to tackle opaque corporate structures.

A prohibition on the use of corporate directors has been on the Government's agenda for a number of years and although prospective legislation has been considered and included in the Small Business, Enterprise and Employment Act 2015 it is yet to be implemented.

Following consultation on corporate transparency and register reform, the Government has announced a package of measures to enhance the powers and role of Companies House. The focus of such measures is on the quality and integrity of information available about companies and other business entities in a bid to improve business transactions and tackle economic crime. In December 2020, the Department for Business, Energy and Industrial Strategy issued a consultation to take forward its plan to implement a ban on corporate directors.

Corporate directors, diminished transparency?

At present, the Companies Act 2006 requires that a company has at least one director who is a natural person and there are no limitations on the number of what are termed as corporate directors (other companies or legal entities) that a company can appoint to its board.

The Government reports that there is evidence to suggest that the use of corporate directors can blur who controls and owns companies and can provide a veil behind which illicit activity is performed.

There are however legitimate uses for corporate directors, for example a company may appoint a corporate director to the board of a subsidiary to be able to have a number of individuals of varying professions represent that directorship in the boardroom according to the agenda under discussion. Elsewhere they can be used as a means to facilitate joint ventures or to reduce administrative costs.

Prohibition with a principles based exception

The Government proposes to implement the ban on companies having corporate directors subject to a "principles" based exception. In order that the purpose of the general prohibition on corporate directors is not undermined, the exception to the ban will only apply to companies as opposed to a broader list of corporate entities.

In essence, the principles based exception to the general rule currently envisaged is that a company can be appointed as a director if:

1. all of its directors are, in turn, natural persons; and
2. those natural person directors are, prior to the corporate director appointment, subject to the Companies House identity verification process.

In relation to identity verification, the Government intends to introduce compulsory identity verification for all directors as a legal prerequisite to appointment which the Government considers to be crucial in order to obtain better information on who is setting up and running UK companies.

The proposed ‘principles’ based exception aims to strike a pragmatic balance between improving corporate transparency and providing companies adequate scope to realise the legitimate benefits of the use of corporate directors outlined above.

Given the prevalence of cross border structures that many UK companies have, to enable constructive cross border relationships where appropriate, the underlying principles will be applied to overseas corporate entities appointed as directors of UK companies. In basic terms, in a situation where a company is seeking to appoint an overseas entity to the role of director, evidence would need to be provided to Companies House that that entity has only natural persons as its own directors, and those directors would need to have their ID verified.

For existing companies with corporate directors, once the ban comes into effect there will be a grace period of 12 months to remove corporate directors. Any corporate directors still in office at the end of the grace period will simply cease to hold office. Companies with corporate directors should begin to consider how to restructure their board arrangements by replacing any corporate directors or ensuring that their corporate directors remove any non-natural persons from their own boards.

Please get in touch with Brodies if you require assistance with board composition or any corporate governance related matters.