Harneys Corporate Recovery Services Guides to The Insolvency Act 2003 - Part 4


8.1 Introduction

Parts IX and X of the Insolvency Act introduce a new regime in BVI law for dealing with†delinquent directors and others involved with a company that goes into liquidation. Part†IX, headed Malpractice, will allow a liquidator to recover assets of the insolvent†company or recoup its losses under three statutory provisions: section 254 (Summary†remedy against delinquent officers and others), section 255 (Fraudulent Trading), and†section 256 (Insolvent Trading). These provisions are modelled on the Misfeasance,†Fraudulent Trading and Wrongful Trading provisions found in 212, 213 and 214 of the†UK Insolvency Act 1986 respectively.

Part X of the Act will introduce a new regime for disqualifying directors, insolvency†practitioners and others concerned in the running and management of companies, where†they have been involved with an insolvent company. The provisions allow for the court†to make a Disqualification Order for a maximum of 10 years or for the delinquent person†to give a Disqualification Undertaking to the Official Receiver, and they are closely†modelled on the UK Company Directors Disqualification Act 1986 as amended by the†UK Insolvency Act 2000.

8.2 Part IX: Malpractice - general points

The Malpractice provisions have certain common features that should be noted at the†outset for they will greatly narrow the scope of their application.†First, the provisions will only apply if the company goes into insolvent liquidation.

They†cannot be invoked if the company goes into any other insolvency regime e.g.†administration or administrative receivership, and only a Liquidator has the power to†make applications to court under these provisions.

Second, insolvent liquidation has a very narrow meaning for the purposes of these†provisions: it is confined to the balance sheet test i.e. that the company's assets are†insufficient to pay its liabilities at the time it goes into liquidation327. The provisions do†not require the basis or ground for liquidation to have been balance-sheet insolvency but†only that when a liquidator is appointed, its liabilities exceed its assets. Thus, if it has†cash-flow problems such that it is unable to pay its debts as they fall due (which will†generally be the most common ground for liquidation invoked by creditors), and it goes†into liquidation, these provisions would apply if it was also balance-sheet insolvent at the†time.

Third, for the purposes of Part IX and X, "directors" has an extended meaning and†includes those who would be known in the UK as "shadow directors" i.e. persons in†accordance with whose directions or instructions a director or the board of a company†may be required to act or is accustomed to so act328. However, a de facto director i.e. a†person who exercises or controls (or is entitled to exercise or control) the powers†normally vested in the board, is not within the definition of "director" for the purposes of†Part IX and X329, although such a person may never the less become liable under section†254 or 255.

Fourth, any money or assets recovered by the liquidator are deemed to be the assets of the†company available to pay unsecured creditors of the company330. This is a helpful and†welcome clarification but it also has important consequences when it comes to the costs†of the liquidator in bringing the application. By deeming the recoveries to be assets of†the company, it allows the liquidator to recoup his costs and expenses of the proceedings†out of the company's assets (including the recoveries) on the basis that he has recovered†"assets of the company", and this would reverse the position under English law331.†However, to ensure that the recoveries do not fall within the scope of any security over†the company's assets as a result of this deeming provision, the Act makes it plain that the†recoveries are available for the unsecured creditors (which is in line with the position†under English law)332.

8.3 Section 254: Summary remedy against delinquent officers

This provision re-enacts section 191 of the Companies Act (Cap 243) but with wider†scope of application for section 191 only applies to liquidators or officers, and does not†apply to breaches of duty in relation to the company generally.†The new section 254 allows the court to make orders where a person has misapplied or†retained, or become accountable for any money or assets of the company in insolvent†liquidation, or has been guilty of misfeasance or breach of any fiduciary duty or other†duty in relation to the company333.

The orders can be made against a wide class of person: an officer of the company, its†liquidator or other insolvency practitioner (such as an administrator, administrative†receiver, supervisor or interim supervisor) or any person concerned in the promotion,†formation, management, liquidation or dissolution of the company334. The court can†order such a person to repay, restore or account for the money or assets, or pay†compensation for any misfeasance or breach of duty, and to pay interest335.†Although headed "summary remedy", a defendant must be given the opportunity to be†legally represented and to call evidence336, and the section does not create any new†liability but only provides a simpler statutory procedure for the recovery of assets or†compensation in liquidation337.

8.4 Section 255: Fraudulent Trading

This provision applies where the company's business has been carried on with intent to†defraud its creditors or the creditors of any other person, or for any fraudulent purpose.†The court can order any person who was knowingly a party to the carrying on of the†business to make such contribution to the company's assets as it considers proper. The†persons who are liable need not be officers of the company and indeed need not have any†connection with the company itself338, and the court is not confined to making†compensatory orders but can also include a punitive element339 to reflect any dishonesty†on the part of the defendants.

8.5 Section 256: Insolvent Trading

This provision is based on the Wrongful Trading provision contained in section 214 of†the UK Insolvency Act 1986 and, unlike the previous two sections, only applies to†directors340 or former directors of the company that goes into insolvent liquidation. The†court can order a director to contribute to the company's assets341 where he knew or†ought to have known at any time before the commencement of liquidation that there was†no reasonable prospect of the company avoiding insolvent liquidation342, and he failed to†take every step reasonably open to him to minimise the loss to the company's†creditors343.

In judging the director's knowledge and the steps that he ought to have taken to minimise†the loss to the creditors, the court must consider both the actual knowledge, skill and†experience of that director, as well as a more objective element namely the knowledge,†skill and experience that may reasonably be expected of a person carrying out the same†functions as the director344. The subjective and object standards are additive in this sense†that if a director was lacking in knowledge, skill or experience such that they were below†those reasonably expected of a director carrying out his function, he will not be judged by†his own low standards but by the objective standard. Conversely, if a director's actual†knowledge, skill and experience is above average, then he will be judged by his own†higher standards345. However, the court will have regard to the company and its business†so that the knowledge skill and experience to be expected may be less extensive in a†small company with a modest business and simple accounting systems than a larger,†more complex business346.

The powers of the court under section 256 will be primarily compensatory rather than†penal347.

The limitation period for Insolvent Trading claims is not specified in the Act. In†England, a 6- year limitation period has been held to apply to a claim under the†equivalent provision of Wrongful Trading because it was a "claim for the recovery of any†sum recoverable under any enactment" within section 9(1) of the UK Limitation Act†1980348 (which is equivalent to section 4(1)(d) of the BVI Limitation Ordinance (Cap†43)). The 6-year period runs from when the company goes into insolvent liquidation.†The BVI court is likely to follow that decision.

8.6 Disqualification Orders and Undertakings

The scheme of Part X for Disqualification Orders and Disqualification Undertakings is as†follows. An application to the court for a Disqualification Order is made by the Official†Receiver349 but must be brought within 6 years of the company concerned...

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