Trading While Insolvent

Henry Shinners explores the consequences of 'wrongful trading' for professional practices.

The UK economy has just emerged from the worst recession in living memory and we are far from out of the woods. Growth is at best slow, public borrowing is extremely high, and, while earlier fears of a double-dip recession have subsided, inflation is running at double the rate the Bank of England is mandated to achieve. The effects of the spending cuts flowing out of the Government's Spending Review have yet to be felt in the wider economy and the availability of credit remains restricted.

It's a pretty gloomy economic picture, yet a combination of record low interest rates and a long period during which HM Revenue & Customs has been extremely supportive of businesses seeking to defer repayment of tax arrears has meant that, to date, there have been fewer business failures than one would have expected during such economic turmoil. Nevertheless, a significant number of UK businesses (including some professional practices) are in poor financial health and many of those may, unwittingly or otherwise, be trading while insolvent.

Impact on LLPs

So, what is trading while insolvent (or 'wrongful trading' to give it its formal title) and does it apply or matter in a professional practices context? In a traditional partnership, where partners have unlimited personal liability for all of the debts of the business, there are no increased financial consequences for the partners personally if they should continue to trade an insolvent business beyond the point that they should. However, in an LLP, where the members will consider themselves to have limited liability, greater care is needed if a nasty surprise is to be avoided.

It's important to remember that LLPs are analogous to limited companies in that an LLP is a body corporate, with a separate legal identity, and its members have limited liability. The corporate (rather than personal) provisions of the insolvency legislation are broadly applied to LLPs in the same way that they are to companies. As with companies, there are certain circumstances in which the corporate veil can be pierced, and a key risk for the members of a financially distressed LLP is that they could be held personally liable for debts of the LLP if they are found to have been trading wrongfully.

Procedure

Wrongful trading is a civil action brought by a liquidator, who will consider whether the LLP's members continued to trade the business...