When the Corporate Insolvency and Governance Act 2020 (CIGA) was passed at the end of June, it became clear that the government’s initial announcements that the threat of wrongful trading would be removed altogether would not exactly be the case.
It is well known that if a company goes into administration or insolvent liquidation and it appears the directors knew or ought to have known there was no reasonable prospect of avoiding that, the directors can be ordered to contribute to the company’s assets. Directors can defend wrongful trading claims on the basis they took "every step’" with a view to minimising potential loss to the company’s creditors. If, however, they are unable to do so directors risk being ordered to pay some or all of the increase in the “net deficiency”.
There is no getting away from the fact claims for wrongful trading are time consuming and expensive. Over the years, the courts have recognised directors often have to make decisions in difficult circumstances and judges have been slow to find that, with the benefit of hindsight, the decision to carry on trading was wrong. As a result several claims for wrongful trading have failed and administrators and liquidators have instead favoured pursuing other claims against directors. Was the government removing a threat which in reality didn’t really exist?
The government’s initial announcements suggested the changes would remove the threat of wrongful trading altogether, suspending claims based on the 3 months from 1 March 2020 addressing concerns about directors’ obligations to take "every step" to minimise potential loss conflicting with the government’s objective of encouraging businesses to ride out the crisis. However when CIGA was passed at the end of June temporary changes were backdated to 1 March and ran for six months instead of the 3 months originally announced. When those temporary changes ran out at the end of September it was announced they would not be renewed, the government preferring instead to support ‘viable businesses’,
However, the “firebreak” in Wales and the second lockdown in England resulted in the temporary changes being re-introduced for the period 26 November 2020 to 30 April 2021. Announcing these, the government made it clear it wanted to avoid companies being placed in to administration or liquidation because directors once again feared wrongful trading.
So what are the temporary changes?
When CIGA was introduced it became clear the courts would be required to assume the director was not responsible for any worsening of the company’s financial position, often referred to as “the increase in the net deficiency”. The word “assume” rather than “presume” caused debate. Would there still be an opportunity to argue the “assumption” was in fact incorrect and the director still liable for wrongful trading? In short, no as the government made clear in parliamentary debates that any increase in the “net deficiency” during the original 6 month suspension period should be left out of account. The new temporary changes work in the same way. In theory, a director could be liable for wrongful trading between 1 October 2020 and 25 November 2020, but in reality this would be difficult (but not impossible) to prove.
On the face of it, the temporary changes give directors the opportunity to act with impunity. But this is not the case. Officeholders will continue to have misfeasance and fraudulent trading claims in their armoury for director misbehaviour during the Covid-19 period and, as discussed further in our previous article, directors can still face disqualification. It remains to be seen whether the courts will give greater latitude to directors during the pandemic or make examples of those who have sought to take unfair advantage of the temporary changes at the expense of others.