Personal liability of directors: Could you be caught out?
A series of our experts take a look at the potential personal liability of directors for a company's legal or regulatory failings.
Being a director brings with it a raft of responsibilities, including a range of duties owed to the company and its stakeholders.
A headline-grabbing decision of the High Court this month sent out a stark reminder that individual directors can find themselves personally liable for a company’s legal and regulatory failings and may be obliged to meet financial liabilities from their own funds, rather than those of the business.
The facts of Antuzis v D J Houghton Catching Services Ltd are extreme and distressing. In summary, a group of Lithuanian workers engaged to catch chickens were subject to a “gruelling and exploitative work regime”, working “massively more than the hours recorded on their pay slips” and being paid less than the statutory minimum wage prescribed for the agricultural sector. The High Court held that the two company directors, who were also sole owners of the business, failed to pay the workers on time, withheld wages as ‘punishment’ and made unlawful deductions from workers’ wages in the form of unspecified “employment fees” and levels of rent that exceeded the maximum prescribed by legislation. No attempt was made to provide the workers with paid holiday or to properly pay workers for overtime at prescribed rates.
Generally, a director who acts in good faith and within the scope of their authority will not be personally liable for breaches of employee contracts that arise by mistake. However, in this case, the High Court held that the company directors had shown a “flagrant disregard” for statutory requirements (such as minimum rates of pay) and had clearly failed in their duty to act in the best interests of the company. It followed that they should be personally liable to the employees for unpaid wages and for the other identified failures to adhere to responsible employment practice.
Thankfully such cases are extremely rare. However, personal liability may arise in many contexts and in a broad range of more common circumstances. Our subject experts explain below the key personal liability risks to directors across the legal spectrum.
As well as the type of statutory breaches involved in the above case, directors can be personally liable under employment law in a number of different ways.
Like employees, directors can be personally liable for unlawful discrimination committed by them in the course of their employment. For example, if an employee alleges that an individual director is guilty of discrimination or harassment, it is common for both the company and the director to be named as respondents to a claim. If both are held liable for the same discriminatory act, then the company and the individual will be ‘jointly and severally’ liable for compensation. However, if the company can somehow show that it took ‘all reasonable steps’ to prevent the discrimination or harassment from occurring, then the individual director will be liable for the whole sum. The fact that Employment Tribunal Judgments are now published online means that career damaging adverse publicity is also a real risk.
The other personal liability ‘hot spot’ in employment law is whistleblowing. In the recent case of Timis v Osipov, the Court of Appeal effectively brought the law on protected disclosures into line with other kinds of discrimination, by holding two non-executive directors liable for their part in dismissing a whistleblower (who was briefly the CEO of the business). One of the NEDs issued the instruction to dismiss and the other executed that instruction. Both were found to be jointly and severally liable with the company for the losses that the claimant suffered as result of his dismissal.
Being held personally liable in this way is a particular risk for directors of small, new or financially insecure businesses. An employee who is concerned that a company may not be ‘good for the money’ is more likely to protect their position by claiming against individual directors as well.
Stuart Jones, Director of Legal Operations
Directors who are also trustees of their company’s occupational pension scheme or group life insurance scheme may face personal liability for any breaches of trust and breaches of certain regulatory requirements.
In certain circumstances, directors may incur personal liability to pay money into (or provide other financial support for) a defined benefit pension scheme operated by their company or with which they are otherwise connected or associated.
The Government has said that legislation will be brought forward as soon as parliamentary time allows introducing a new criminal offence of "wilful or reckless behaviour" in relation to pensions. The new law is designed to ensure that company directors who allow defined benefit scheme deficits to escalate to unsustainable levels, or who endanger their workers’ savings through chronic mismanagement, face legal action.
Mark Poulston, Head of Pensions.
Tax and insolvency
In terms of tax, the circumstances where the directors can be held personally liable for the tax liabilities of the company are relatively limited and largely confined to certain insolvency situations or where there has been an element of fraud/wilful default on the part of the relevant directors.
For example, in an insolvency situation, whilst it has no direct recovery powers, HMRC can (and more often than not will) require security for VAT in relation to any future businesses with which any of the directors of the insolvent company may become involved.
There are also some circumstances whereby HMRC can seek to recover outstanding PAYE debts and NICs from the directors. To be liable for outstanding PAYE debts a director must have ‘wilfully failed’ to deduct tax (meaning that the recovery power is most often applied in the case of small owner-managed companies or where the director has some personal influence or control over the company’s finances). NICs can be recovered if non-payment is attributable to the fraud or neglect of the director.
Haydn Rogan, Partner, Tax
There are many ways through Regulation that a director can find themselves personally ‘on the hook’, including health and safety, transport, and certain sector-specific regulatory issues (for example the ‘fit and proper persons’ requirement in the NHS).
All statutory directors (i.e. registered at Companies House) and anyone that “purports” to be a director (i.e. who is not a statutory director but holds themselves out to be a director) of a limited company can be investigated, prosecuted and ultimately convicted of criminal offences if it can be proved that the company committed a criminal offence and that the offence occurred as a result of the consent, connivance or was attributable to the neglect of that director. This is often referred to as “secondary liability”.
The concept of directors’ liability runs through the majority of Regulatory legislation and most statutory duties placed on companies, like the health and safety of employees or proper systems for waste management, include the power to prosecute directors.
Directors can be sent to prison for these types of offences and can also be disqualified from being a director for up to 15 years.
Dewi Ap-Thomas, Partner, Regulatory
In relation to environmental breaches by companies, it is now common for directors to be personally charged with criminal offences in addition to the company itself.
As with health and safety issues more generally, the HSE or Environment Agency can charge a director with an offence whenever this has been committed due to the consent, connivance or neglect of the director. With smaller owner-managed businesses, where directors are involved in the day to day running of the company, it is relatively easy for the HSE/EA to demonstrate the necessary consent, connivance or neglect.
In addition, where a fatality of an employee or member of the public occurs, there is the risk that directors can face a charge of corporate manslaughter. The test is met if a person who is a ‘controlling mind’ of the company has committed a gross breach of duty of care that has ultimately caused the death of an employee.
The introduction of new Court Guidelines for both Environmental and Health and Safety offences has seen significant increases in the penalties imposed for breaches by companies and directors. There are potentially unlimited fines and significant terms of imprisonment in more serious cases.
Directors are open to a huge number of risks in the business crime field. The possibility for investigation and subsequent conviction is real.
For example (putting aside directors committing ‘primary offences’ such as fraud, bribery and money laundering, which could result in convictions and disqualification from being a director) directors could also be prosecuted for a number of ‘consent and connivance offences’, for example for ‘turning a blind eye’ to the involvement of others in fraud or bribery.
Other exposures include investigations by the Companies Investigations Branch of the Insolvency Service into the conduct of directors, which could result in sanctions such as a winding up petition in the public interest and directors’ disqualification.
There is also the inevitable conflict between the corporate and its directors in the context of self reporting, highlighting the tension between potential corporate and individual liability and any resulting actions such as the intention to seek a ‘deferred prosecution agreement’ (DPA) by the corporate. This is an agreement by which a business agrees to follow a course of remedial action to defer or avoid prosecution and might result in the need to expel the offending directors from the business.
On the data side, there could be exposure to prosecution if a director deals with personal data unlawfully.
Euros Jones, Partner, Business Crime.
Corporate and commercial issues
Whilst a company is a separate legal entity, there are several ways in which directors may be held to be personally liable, directly or indirectly, for the debts and other obligations of the company.
The Companies Act 2006 sets out seven ‘general duties’ owed by directors to a company. For example, an action may be brought by a company against a director in respect of an actual or proposed act or omission involving negligence, default, breach of duty or breach of trust by a director of the company. The Companies Act 2006 (section 174) also imposes a general duty on directors to exercise reasonable care, skill and diligence. A breach of duty may be grounds for the termination of an executive director's service contract, or for disqualification as a director under the Company Directors Disqualification Act 1986.
Companies can often find that their funders or landlords require their directors to personally guarantee obligations of the company’s bank facilities or leases. In addition, directors may have explicitly entered into obligations to contribute to the assets of the company or grant security for the company’s debts and obligations. Separately, directors who also hold shares which are not fully ‘paid up’ will be required to pay up outstanding amounts on their shares.
Directors can also be held personally liable if they exceed their limits of authority to bind the company. Any arrangements entered into could be binding on the company which might then seek redress against the relevant director
Kieran Donovan, Partner, Corporate and Commercial
Weightmans Boardroom Training provides a tailored programme of training and update sessions for board directors and senior managers covering the full range of risks and responsibilities of directorship, including personal liability. The service is suitable for both experienced directors and senior managers who need to maintain awareness and keep up to date with legal and regulatory changes, and for those who are newly appointed to their roles and need to get up to speed with their new responsibilities.
For full details of our Boardroom Training Service, please contact our head of client training, Mark Landon, email@example.com, 020 7822 1905.