Directors have legal duties that become particularly important when a company faces financial difficulty. Understanding these duties helps you make decisions that protect both the company and yourself.
Director duties explained
All directors have duties under the Companies Act. When a company is in financial difficulty, some of these duties require particular attention.
This matters
Directors who breach their duties can face personal liability. In serious cases, this means being required to contribute personally to the company's debts. Understanding your obligations is not optional.
Good faith and best interests
You must act in good faith and in what you believe to be the best interests of the company. When the company is in financial difficulty, this shifts towards the interests of creditors.
Care and diligence
You must exercise the care, diligence, and skill that a reasonable director would exercise. This includes staying informed about the company's financial position.
Not trading recklessly
You must not agree to the company incurring an obligation unless you believe on reasonable grounds that the company will be able to perform the obligation when required.
Safe harbour requirements
The Companies Act provides some protection for directors who take appropriate steps when they believe the company may be unable to pay its debts. This "safe harbour" protection requires:
- - Acting in good faith
- - Taking reasonable steps to ensure the company incurs no further obligations that it cannot meet
- - Taking one of the prescribed steps: obtaining advice on options, taking steps to restructure, calling a meeting of creditors, or making an application for liquidation
What triggers personal liability?
Personal liability can arise if you:
- - Continue trading when you know or should know the company cannot pay its debts
- - Allow the company to incur obligations it cannot meet
- - Fail to exercise reasonable care, diligence, and skill
- - Give preferences to some creditors over others when insolvent
Phoenix company restrictions
Directors of companies that go into liquidation face restrictions on starting or directing similar businesses. These rules exist to prevent deliberate "phoenixing" - liquidating a company to escape debts and then starting essentially the same business debt-free.
Five-year restriction (Companies Act s386A)
If a company goes into liquidation while insolvent, directors cannot be directors of, or otherwise be involved in managing, a company with a similar name for five years from the date of liquidation - unless they have court approval.
- - "Similar name" includes names so similar as to suggest an association with the liquidated company
- - Breaching this restriction is a criminal offence with potential fines or imprisonment
- - Court approval requires showing you acted honestly and the restriction is not needed to protect creditors
This does not mean you cannot start a new business after a company fails - but you need to be careful about the name you choose and how you structure your involvement.
Documentation and record-keeping
If your decisions are later questioned, your best protection is evidence that you acted reasonably at the time. This means:
- - Keeping accurate financial records and monitoring them regularly
- - Documenting board decisions and the reasoning behind them
- - Getting professional advice and acting on it
- - Recording when you became aware of financial difficulties
- - Keeping evidence of steps taken to address the situation
What we do at this stage
We explain your obligations clearly and help you understand what steps will protect you. We can advise on what documentation you should be creating and what decisions you need to be making. Getting this advice is itself a step that demonstrates you are acting responsibly.