Insolvency: dissolution and errant directors
New legislation is imminent which will increase and expediate the powers of the Insolvency Service to investigate the conduct of former directors of dissolved companies.
This has been prompted in part by concerns as to the prevalence of fraudulent Bounce Back Loans, which the National Audit Office estimated to be worth around £4.9billion in December 2021.
The Ratings (Coronavirus) and Directors Disqualification (Dissolved Companies) Bill (the Bill) was given Royal Assent on 21 December 2021. The Bill proposed a number of amends to The Company Directors Disqualification Act 1986 and these changes to the law are now expected to come into force in early 2022.
Dissolution or Liquidation
Dissolution is generally intended for companies which are no longer trading (for at least three months) and are not subject to (or under threat of) of a formal insolvency process. It is a relatively straightforward and quick procedure which does not need to be overseen by an insolvency office holder.
In contrast, a liquidation can typically take anywhere from six to 24 months to be completed, with liquidators being formally appointed (whether by the directors of the company or by its creditors, depending on the nature of the liquidation) to manage this process from start to finish. Critically, a liquidation includes a requirement to investigate and potentially pursue claims against errant directors and to report to the Secretary of State for Business Innovation and Skills on whether to seek their disqualification.
Further, whereas in a liquidation the assets of a company are realised and then distributed amongst its creditors, there is no similar process in a dissolution. This means that the dissolution process can be susceptible to abuse by less scrupulous directors, who may consider dissolving a company with significant debts in an attempt to avoid any liability and/or to move assets beyond the reach of creditors, before incorporating a new company which effectively continues the business in place of the dissolved company (a practice known as "phoenixism").
Changes to the law
Under the existing law, the Insolvency Service cannot investigate the conduct of a former director of a company which has been dissolved (as opposed to liquidated) without first restoring the company to the register of companies (an act which essentially reverses the dissolution). This includes any investigation into directors who may be suspected of phoenixism or other misconduct. Restoring a company requires an application to Court which will usually take a few weeks or months. The party restoring the company will then also need to wind the company up at the end of any investigation and subsequent legal action.
However, by removing the procedural step of company restoration the Insolvency Service will now be more motivated to conduct investigations into director conduct, especially where there are concerns that the dissolved company in question has improperly taken advantage of the various forms of financial relief that have been provided by the Government in response to the COVID-19 pandemic.
Importantly and unusually, the new laws are intended to have retrospective effect. This means that they will be applicable against the former directors of any company which has been dissolved in the past. The potential consequences for a former director who is found to be liable for misconduct include: being disqualified for a period between 2 and 14 years; being ordered to personally repay any creditors who have suffered financial losses as a result of such misconduct; and prosecution in the most serious cases.
Whilst the extent to which the Insolvency Service will exercise its new powers remains to be seen, it is nevertheless now more imperative for directors to take professional advice about the right process for bringing about the end to a company.