The reasons behind director disqualification and how to avoid them

During 2020/21 there were a total of 972 director disqualifications under the Company Directors Disqualification Act (CDDA) 1986, as a result of the work of the Insolvency Service.  However, this number is set to rise as the Government pursues investigations into companies that have entered a form of insolvency and defaulted on State backed loans that were taken out during the pandemic.

 

Andrew Garland, Partner at The Wilkes Partnership explores some of the common reasons behind director disqualification and what directors should be doing to avoid falling foul of the law.

Reasons for disqualification

A company director runs the risk of disqualification if they fail to fulfil their legal and directorial responsibilities. There are many reasons why a director could be placed under investigation with a view to potential disqualification. The Insolvency Service looks for unfit conduct, examples of which include:

• Allowing the company to trade wrongfully or fraudulently;
• Paying other creditors in preference to the crown; or topically at present
• Taking out a bounce back loan for use other than legitimate company business i.e. to fund a house extension or the purchase a flash new car for the director.

The Company Directors Disqualification Act 1986 (CDDA) lists out what is deemed as unfit conduct and is an important guide for company directors to be aware of.

Section 6 of the CDDA 1986 states: “The court shall make a disqualification order against a person in any case where, on an application under this section, it is satisfied that they are or have been a director of a company which has at any time become insolvent (whether while they were a director or subsequently), and that their conduct as a director of that company (either taken alone or taken together with one or more other companies or overseas companies) makes them unfit to be concerned in the management of a company.”

Some of the matters the CDDA lists as determining unfitness are: breach of duty; misapplication or retention of company funds or property; failure to lodge accounts; failure to supply goods and services that have been paid for; entering challengeable transactions; and failure to cooperate with the office holder.  In reality it will encompass anything that is obviously wrong and not in the company’s best interests, the director using all the proceeds of a bounce back loan personally being but the latest example.

If you have lost money when a company has gone bust and you feel there has been wrongdoing then inform the appointed Officeholder. Their details can be found in the “Insolvency Section” of the company’s records held at Companies House. The liquidator or administrator must file a report with the Insolvency Service on the conduct of the directors in every case. If there are sufficient matters of concern in that report the Insolvency Service will investigate.

If you are a director of a company that has gone into liquidation or administration and the Insolvency Service is concerned about your conduct, the first warning you will get is a letter setting out what they think might amount to unfit conduct which warrants their investigation. The Insolvency Service will at that point ask the director to respond to various questions in relation to their matters of concern. In the absence of satisfactory explanation this will be followed by a letter inviting the director to agree to a voluntary disqualification to avoid court proceedings for a period of between 2 and 15 years if they consider the director is unfit following their investigation.

Other bodies can also apply to have a director disqualified under certain circumstances, including: Companies House, the Competition and Markets Authority (CMA) or the courts, typically as part of a criminal investigation.

How to avoid being disqualified

Of course, good practice comes first.  Having up-to-date knowledge and understanding of the legal requirements and obligations listed in the CDDA is an essential first step to avoiding any claims or investigations.  We would highly recommend directors go on good director practice courses, for instance those held by the Institute of Directors, to ensure they are following best practices in their day-to-day director duties.

It is also vital for directors to get legal advice if they are approached by the Insolvency Service when investigating their conduct as directors. With disqualifications set to rise as the government pursues widespread abuse of pandemic loan schemes, more directors are at risk of being disqualified. However, with the pandemic and Covid restrictions presenting a very unusual situation for company directors, there may be defences available, legal experts will be able to properly determine whether or not actions truly reflect unfit conduct.

Specialist legal advice at an early point will help assist in understanding your position.  Directors who ignore letters, sent by the Insolvency Service during the course of an investigation, risk ending up being disqualified or disqualified for a longer period than is necessary.  They could also have an adverse finding against them, which could give great assistance to a liquidator or administrator in pursuing them personally and be liable for extensive Insolvency Service legal costs. The Insolvency Service also has the power to seek a compensation order against the director if his conduct has been unfit. It is therefore prudent to seek expert advice as soon as possible before you find yourself on the wrong end of a court action for your disqualification as a director.

For advice on corporate law, please contact Andrew Garland on 0121 233 4333 or email [email protected].