The reactivation of wrongful trading rules at the end of last month marks the return of personal liability risk for directors of businesses that continue to trade while on the brink of insolvency.

The Corporate Insolvency and Governance Act 2020 (Coronavirus) (Extension of the Relevant Period) Regulations 2020 came into force on 30 September, extending several 'breathing space' measures for businesses hit by the impact of COVID-19. Notably though, it didn't extend protection to directors for the offence of wrongful trading, which the UK Government had previously suspended. At the time, this was seen as providing a lifeline to those attempting rescues or restructurings. Now, that measure has ended – and there could be significant personal consequences for directors who breach the rules.

Wrongful trading is an offence under the Insolvency Act 1986. It applies to current and former directors of companies that have gone into liquidation or administration, who allowed the business to continue trading when they knew, or ought to have been aware, that liquidation or administration was inevitable.

If wrongful trading occurs, the director(s) who caused the company to continue to trade can be held personally liable for the losses sustained. The court decides what sum, if any, they have to pay to the company - out of their own assets - by way of contribution. To determine how much that contribution is, the conduct of the director is examined, paying particular attention to their skills and expertise. As a general rule, the more experienced and skilled you are, the less latitude given. The central idea behind the remedy is to put the company back into the position it would have been in, had the wrongful trading not occurred.

Earlier this year, the suspension of wrongful trading was heralded by some as key to business recovery, giving directors confidence to keep trading during the pandemic without the threat of personal liability. The UK Government's decision not to extend this protection has therefore attracted criticism, with the Institute of Directors raising concerns that it "risks opening the door to a wave of avoidable insolvencies."

While the concern from directors is understandable, a balance has to be struck. Support can be given for business recovery that does not come at the expense of a company's creditors. The principles behind wrongful trading are straightforward – directors should not continue to trade to the detriment of creditors. Notably, the suspension of wrongful trading did not impact any other offences under the Insolvency Act that can hold directors personally liable for their actions. Nor did it suspend any other director duties or obligations which, if breached, carry potential personal liability consequences. They continued in full effect.

Wrongful trading coming back into force is a cue for directors to remember their duties and obligations. Where there are solvency concerns, creditors and their interests should be at the forefront of a director's mind when making decisions. Keeping cashflow under close, continuous review is key to reducing the risk of rule breaches, as well as monitoring solvency and taking action promptly if a problem is identified or on the horizon.

Keeping contemporaneous records too, can be significant if actions are reviewed at a later stage; they may provide clear details of what decisions were made and why. And taking advice from a restructuring specialist as soon as concerns arise - these are all demonstrable evidence that appropriate and responsible steps have been taken to minimise the loss to creditors.

This article originally appeared in the Scotsman.


Lucy McCann