With the pressure on construction companies likely to increase as the recession deepens over the coming year, John Wallace, solicitor and managing director of specialist construction and real estate boutique law firm Ridgemont, examines directors’ liabilities in the event of a construction company insolvency
The construction sector is not immune to the macro-economic events that are now well rehearsed and, like with many areas of the economy, construction companies are under pressure, with supplier price increases and unavailability, labour shortages and interest rate hikes. Red Flag Alert projects that 6,000 construction companies will become insolvent in 2023.
Complications arise when subcontractors enter insolvency during the construction process. Delays give rise to claims by an employer against a subcontractor and, with the subcontractor now insolvent, the contractor is left holding the baby, inevitably incurring a premium on engaging an alternative subcontractor.
The prospect of a main contractor recovering sums from an insolvent subcontractor may rely on action being taken against the directors of the demised company.
A director’s liability in a construction company insolvency
The directors of an insolvent company must tread carefully to avoid personal liability for the company’s debts by way of:
1. Wrongful trading
Wrongful trading is an action brought by an insolvency practitioner against a director allowing an insolvent company to continue to trade where there is no reasonable prospect of avoiding insolvent liquidation or administration, contrary to Section 214 Insolvency Act 1986. A director (including any de facto or shadow director) found to have wrongfully traded may be held liable to make such contribution to the company’s assets as the court considers proper and may be the subject of a disqualification order.
2. Fraudulent trading
Fraudulent trading is an action brought by an insolvency practitioner against a director under Section 213 Insolvency Act 1986 where an insolvent company continues to trade with the intent to defraud creditors or for another fraudulent purpose – this is both a criminal (Section 993 Companies Act 2006) and a civil offence. Note that a single transaction can amount to “continuing to trade”. A person found guilty of fraudulent trading in the criminal court may be imprisoned for up to 10 years and fined. In civil proceedings, an insolvency practitioner can seek a declaration that anyone knowingly part to the fraudulent trading must contribute to the company’s assets as the court thinks proper.
3. Misfeasance or breach of fiduciary duty
This could mean that a director is liable, in the course of a winding up, where they have misapplied or retained, or become accountable for, any money or other property of the company, or they have been guilty of breach of a fiduciary or other duty.
The court may make an order that the director repay, restore or account for the money or property, with interest or contribute to the company’s assets as the court considers just (Section 212 Insolvency Act 1986). In addition, a director found guilty in such circumstances may be disqualified from being a director for up to 15 years.
Directors should seek legal advice as soon as construction insolvency arises
The key advice to directors is to seek expert legal and accounting advice as soon as the risk of insolvency raises its ugly head. Directors should ensure that board meetings are held on a weekly basis, with board decisions, made on the basis of up-to-date financial and legal information, recorded in formal resolutions and minutes.
The board should be cautious and scrutinise any extension of funding facilities or additional facilities before entering into them. Directors must ensure that contingency plans are put in place and discussed with their legal and accounting teams in preparation for the inability of the company to trade out of its precarious positions.
Clearly, the board must not ratify any antecedent transactions unless the board believes in good faith that the transaction would benefit the company. These are transactions that:
a) Put a particular creditor in a better position than it would have been at the point the company is insolvent – such as paying a particular supplier, under duress, ahead of other suppliers or HMRC.
b) The transferring of assets to another part for no consideration or for significantly less consideration than the asset’s true value, eg transferring plant and machinery to a NewCo at less than market value.
c) Transactions seeking to put assets out of the reach of creditors – transferring cash-at-bank to a director’s personal account to avoid it being swallowed up by creditors.
The directors of subcontractors, indeed any companies, must ensure that they are fully aware of their obligations as directors, the consequences that they face for breach and the best practice necessary to ensure the avoidance of personal liability.
John Wallace
Solicitor and managing director
Ridgemont
Tel: +44 (0) 204 579 8686
