When the life of a company comes to an end, it will often be removed from the register using the dissolution process. For those companies that qualify for dissolution, this process is simpler, cheaper and less formal than a liquidation, although there is still a statutory process which needs to be followed through. Often in practice however this isn’t done, whether through a lack of appreciation of what is required, or for less innocent reasons.
Recently enacted legislation potentially imposes personal liabilities on directors who dissolve companies where the qualifying conditions for dissolution are not met. In common with the National Security and Investment Act 2021 which has recently come into force, the new Rating (Coronavirus) and Directors Disqualification (Dissolved Companies) Act 2021 (the “Act”) also has retrospective effect and can catch dissolutions within the last three years.
Companies are dissolved for various reasons and dissolution can be a legitimate and cost-effective method of bringing a company to an end. Importantly, one of the main conditions for a director to apply for their company to be dissolved is that it does not owe any money to creditors.
However, from time to time situations arise where directors (whether naïvely or deliberately) dissolve their company whilst it remains indebted to creditors. This has become a particular issue in relation to the Covid-19 related financial support provided by the UK Government.
Up to now it has not been possible for the authorities or insolvency practitioners to investigate directors of companies that have been dissolved without having been subject to a formal insolvency process beforehand, unless they, or certain other aggrieved parties (including creditors), incurred the time and expense of restoring the dissolved company to the register. This meant that without legislative intervention such directors could, in most cases, get away with dissolving their company whilst leaving creditors unpaid.
Against this background, the Act was enacted on 15 December 2021 to close this loophole.
New powers for the Secretary of State
The Act seeks to deal with the above concerns, as well as the problem of 'phoenixism,' which involves directors creating a new company using a similar name as another dissolved or liquidated company, but without the latter’s liabilities.
The Act amends the Company Directors Disqualification Act 1986 by giving the Secretary of State (SoS) (and in turn its executive agency, the Insolvency Service) the power to investigate the conduct of directors of companies that have been dissolved without having previously been in an insolvency process. The Act also extends to individuals who instruct such directors, which would include shadow directors, but excludes professional advisors.
If the conduct of a director warrants further action, the SoS may apply for a disqualification order against such a director which could disqualify an individual from acting as a director for a period of between 2 and 15 years.
In addition, in circumstances where the director’s conduct has led to creditors of the dissolved company suffering a loss, the SoS may also seek an order requiring the director to pay compensation.
Impact on directors
The Act allows the SoS to make an application for a disqualification order up to three years after the relevant company has been dissolved. The legislation is also retrospective, and applies to companies that were dissolved before the Act was enacted, subject to this three-year time period.
Whilst this is a positive step in terms of combatting fraud, directors will need to pay careful attention to their duties when considering whether to dissolve their company. If debts are owed to creditors, then dissolution is unlikely to be appropriate.
This means directors of companies with financial problems will need to consider their options very carefully. This may add a layer of complexity and cost, particularly as it is likely to require the involvement of an insolvency practitioner to advise on the appropriate method of winding-down the company. However such an exercise may be preferable to dealing with potentially protracted and costly investigations by the SoS, and proceedings for disqualification and compensation orders.
At this early stage it is difficult to anticipate the practical impact of this new legislation, and what resources the Insolvency Service will have at its disposal to exercise its new powers. Likewise, it will remain to be seen whether dissolutions become less popular as a means of bringing a company to an end, and also whether this curbs what seems to be – anecdotally at least in our experience – the relatively common practice of viewing dissolution as a matter of filing a form at Companies House (rather than something which requires adherence to the Companies Act prescribed process and, for example, writing to creditors).
However what is clear is that more than ever directors need to be conscious of the impact that dissolving a company has on its creditors and consider their interests when it is experiencing financial problems, and what the dissolution process actually entails.
Russell-Cooke has specialist teams who are well placed to advise on the issues discussed in this article. If you have any queries about this topic then please do not hesitate to contact David Webster, David Fendt, or anyone from our Corporate & Commercial or Insolvency teams.