What is wrongful trading?

By John Keeble

If, in the course of an insolvent winding up or insolvent administration of a company, it appears that a person who is, or was, a director of the company knew or ought to have concluded at some point before the commencement of the liquidation or administration that there was no reasonable prospect that the company would avoid going into insolvent liquidation or insolvent administration, the liquidator or administrator of the company can seek a court declaration that the director make a contribution to the company’s assets.

Who can be liable?

Only directors can be liable for wrongful trading. ‘Director’ is widely defined to include any person occupying the position of director, by whatever name called. This means that a ‘de facto’ director or a ‘shadow director’ may be liable for wrongful trading.

The person must be a director of the company at the time he knew or concluded that there was no reasonable prospect of the company avoiding insolvent liquidation or insolvent administration.

Dishonesty is not required and accordingly, there is a lower burden of proof than that required to prove fraudulent trading.

What is the director’s liability for wrongful trading?

A director will be required by the court to make a contribution to the company’s assets. The amount will depend on the specific facts.

A person held liable for wrongful trading may also be the subject of a disqualification order.

Are there any defences?

The court will not make an order for wrongful trading if, knowing there was no reasonable prospect that the company would avoid going into insolvent liquidation or insolvent administration, the director took every step with a view to minimising the potential loss to the company’s creditors as he ought to have taken.

What should a director do to mitigate the risk?

Follow best practice at directors’ meetings. Keep minutes reflecting reasons for taking decisions.

Always have up to date financial information. Do not wait for an event such as a creditor’s claim, a winding up petition or administration application or a failure to meet sales or cash flow forecasts to alert directors to the fact the company is in financial difficulty.

Take advice. As soon as a director is aware that there is no reasonable prospect of avoiding insolvency, or fears that is the case, he must raise the problem with the rest of the board with a view to taking immediate independent financial advice.

Consider whether to cease trading or to resign from the board.

Covid-19

The Government announced on 28 March 2020 that it is to suspend the operation of rules relating to wrongful trading for three months from 1 March 2020, with the possibility that such period of suspension may be extended.

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