In the increasingly uncertain times that businesses are now operating within, directors need to be aware of their personal liabilities, both civil and criminal, of being involved in companies that have been liquidated.
The Insolvency Act 1986 and the Insolvency Rules 1986 have been in part designed to prevent what is known as "phoenix trading". This is where the activities of a failed company would be continued by the directors using the vehicle of a new company, often trading under the same or a similar name. The new company would use the old company’s assets and exploit its goodwill. As each company is treated as a separate legal entity, creditors of the failed company would have no right of recourse against the successor company.
Under section 216 of the Insolvency Act, it is a criminal offence for a director/shadow director of a failed company to be involved with another company that has a prohibited name (the same name or a confusingly similar name to that of the failed company). If found to be in breach of section 216, a director/shadow director could face up to two years in prison and/or a fine of £15,000.
In addition to the criminal liability under section 216, under section 217 of the Act a director/shadow director in breach may be personally liable for the debts of the new company for the period in which that company used the prohibited name.
The Insolvency Act is widely drawn and case law has shown that the courts do not hold any judicial discretion as to whether or not to apply sections 216 and 217. The upshot of this is that a director/shadow director may have inadvertently fallen foul of the Act with no intention of defrauding creditors and if found guilty they would face the criminal sanctions under section 216 and the civil sanctions under section 217.
There are however three ways in which a director/shadow director can still act for a new company with the same or confusingly similar name as the failed company:
1. Prior to the failed company being placed into insolvent liquidation the director/shadow director must provide notice of their involvement in the new company to all the creditors of the failed company and publish the same notice within the London Gazette. There are rules concerning the form that the notice is to take and the timing of the notice. The notice must be published in the London Gazette and sent to all the creditors of the failed company within 28 days of the completion of the transaction where the new company purchased the business and assets of the failed company;
2. The director in question can apply to the Court for leave to be involved as a director/shadow director with the new company. The director/shadow director in question must apply to the court to use the prohibited name within seven days of the failed company having been placed into liquidation; or
3. The new company had been known by the prohibited name for 12 months before the date on which the old company was placed into insolvent liquidation and had not been a dormant company.
This legislation is complex and does represent serious pitfalls and dangers for directors and management teams involved in management buy outs and/or company purchases from insolvency practitioners. It is therefore vital that any managers or directors considering purchasing businesses from insolvency practitioners take legal advice to avoid any personal liabilities.