Fraudulent trading as a creditor’s remedy - time for a rethink? by Henry Skudra INTRODUCTION liquidated, to fully repay its creditors and so they will try and recover their losses by extracting funds from the company’s The Business Secretary’s recent succinct but important directors; almost always through the medium of an insolvency discussion paper Transparency & Trust: Enhancing the Transparency professional. To illustrate the scale of corporate insolvencies, of UK Company Ownership and Increasing Trust in UK Business raises Goode in his most recent corporate insolvency textbook several issues over which no doubt much ink will be spilt. identifies a stark rise from 12, 507 liquidations in 2007 up to One of the key aims of the proposals is to improve financial 15, 535 in 2008 and 19, 077 in 2009 as the Recession/Credit redress for creditors and, within that, the proposed radical Crunch hit home. The most recent figures from the Insolvency disruption of the Re Oasis Merchandising Services Ltd [1998] Ch Service (taken from http://www.insolvencydirect.bis.gov.uk/ 170 orthodoxy whereby liquidators are presently prevented otherinformation/statistics/201308/index.htm) suggest that from selling or assigning civil actions for fraudulent or wrongful we are over the worst (with around 15, 356 liquidations for trading. Such actions are undertaken pursuant to sections 213 the last 12 months up to and including the second quarter of and 214 of the Insolvency Act 1986 respectively. 2013), but we are far from being back to pre-Recession levels. This paper compares the current options creditors enjoy There are chiefly three methods by which directors are held against delinquent directors. It engages in detailed comparisons personally liable for mis- or malfeasance when a company is in and delves especially into criminal fraudulent trading since its last death throes, commonly known as the “twilight zone”: there is a startling omission in both the discussion paper • fraudulent trading under the Insolvency Act 1986, section and in academic literature generally of fraudulent trading 213 (civil liability); prosecutions under section 993 of the Companies Act 2006 • wrongful trading under the Insolvency Act 1986, section and its statuatory predecessors. This is even more surprising 214 (civil liability); given the recent case of Bilta (UK) Ltd (in liquidation) and others v Nazir and others (No 2) [2012] EWHC 2163 (Ch); [2013] 2 • fraudulent trading under the Companies Act 2006, section WLR 825 as well as post-conviction developments in recent 993 (criminal liability). time. These include the Proceeds of Crime Act 2002 and Each of these options must tread a fine line which is perhaps courts being compelled to consider the issue of compensation best outlined by Buckley J in Re White and Osmond (Parkstone) pursuant to the Powers of Criminal Courts (Sentencing) Act Ltd: 2000, section 130 (as amended by the Legal Aid, Sentencing and Punishment of Offenders Act 2012, s 63). “What is manifestly wrong is if directors allow a company to incur credit at a time when the business is being carried on in such It concludes that criminal fraudulent trading should not circumstances that it is clear the company will never be able to satisfy its be overlooked- either in pursuing the government’s laudable creditors. However, there is nothing to say that directors who genuinely aim of improving financial redress for creditors (at paragraphs believe that the clouds will roll away and the sunshine of prosperity [11.1]-[11.17] of the above discussion paper), or as an option will shine upon them again and disperse the fog of their depression for creditors. It is hoped that this article can at least attempt to are not entitled to incur credit to help them to get over the bad time.” fill this lacuna in academic literature. (Unreported, cited at A Keay, McPherson’s Law of Company CURRENT OPTIONS FOR CREDITORS Liquidation (2nd edn, Sweet & Maxwell 2009), [16.020]). When a company has been wound up, creditors (defined To fully appreciate the forthcoming discussion, it must be in Halsbury’s Laws of England as natural or legal persons with pointed out that prior to 1985 there was only one form of a pecuniary claim, whether actual or contingent, against a fraudulent trading- (both civil and criminal) in the form of company) will seek to get their money back. Very often there section 332 of the Companies Act 1948. In the Companies are insufficient remaining assets for the company, even when Act 1985 the criminal and civil provisions were split and 11 Amicus Curiae Issue 94 Summer 2013 the civil subsection was hived off to become section 213 of the Statutory Regulation of Fraudulent Trading” (M Jur thesis, the Insolvency Act 1986. Wrongful trading only arrived as a University of Durham 2012), ch 2). cause of action in the form of section 214 of the Insolvency Act 1986 (see further: Henry Mikolaj Skudra, “An Analysis of The following table best presents the three different causes of action and allows for the simplest comparison: Option: fraudulent trading (civil) wrongful trading fraudulent trading (criminal) Legal basis: s 213 of the Insolvency Act 1986 s 214 of the Insolvency Act 1986 s 993 of the Companies Act 2006 Elements: (Based on McPherson’s Law of (See P Totty, G Moss and N Segal (Based on J Richardson QC (ed), Company Liquidation, [16.018]- (eds), Totty, Moss & Segal: Insolvency Archibold: Criminal Pleading, Evidence taken from Morris v Bank of India (Looseleaf, Sweet & Maxwell), and Practice 2013 (59th edn, Sweet [2004] 2 BCLC 236, 243). [B1-32]). & Maxwell 2013), [30-118]-[30- 122]). 1. the company was in liquidation; 1. that the relevant company had gone into insolvent liquidation; 2. such business has been carried on 2. that at some point before the 1. the business has been carried on with with intent to defraud creditors or for commencement of the winding up of intent to defraud creditors or for any any other fraudulent purpose; the company, that person knew or other fraudulent purpose; ought to have concluded that there was no reasonable prospect that the company would avoid going into insolvent liquidation; and 3. the defendant participated in the 3. that at the time the person reached 2. the defendant participated in the carrying of business; and his conclusion or ought to have reached carrying of business; and his conclusion about the company’s fate (and for convenience that time is called “the relevant time”) that person was a director of the company. 4. the defendant did so knowingly. BUT The foregoing is subject to 3. the defendant did so knowingly. a caveat contained in s.214(3) which provides a statutory defence in that no declaration will be made is the court is satisfied that the (ex)director took every step he ought to have taken to minimise creditors’ potential loss. Remedy(ies): Liability to make such contributions Liability to make such contributions Ten years’ imprisonment and/or a fine, (if any) to the company’s assets as the (if any) to the company’s assets as the compensation orders made court thinks proper. court thinks proper. and (if the defendant is a director, (disqualification will almost post-conviction proceedings under disqualificaion will almost inevitably follow if it has not been Proceeds of Crime Act 2002 legislation inevitably follow if it has not been done already - and wrongful trad- to recover creditors’ monies/assets. done already). ing actions can be pursued against directors only) NB - It is also worth noting that options 1 and 2 are specifi- cally not mutually exclusive by virtue of s 214(8). 12 Amicus Curiae Issue 94 Summer 2013 DIFFERENCES BETWEEN THE THREE “Intent to defraud”- in ss 213 and 993 only OPTIONS – A CONTRAST The phrase, “with intent to defraud” is the most problematic The following provides an analysis of the differences element of fraudulent trading of both types and has troubled between the three pieces of legislation mentioned above. From both commentators and the courts for some time (as pointed that, key differences as to the efficacy of each provision will out in A Keay, Company Directors’ Responsibilities to Creditors emerge. (Routledge-Cavendish 2007), p 122). It is important to “In the course of the winding up of a company” – in ss 213 highlight that this same test is applied to both civil and criminal and 214 only proceedings. This oddity, whereby a criminal test is also applied to a civil This phrase is not problematic per se given that part IV of wrong, was brought about by DPP v Schildkamp [1971] AC 1 the Insolvency Act 1986 clearly delineates what is meant by where it was decided that both civil and criminal wrongs were this as well as outlining the various procedures by which this contained in section 332 of the Companies Act 1948. A bare can occur. majority of the House of Lords held that the whole of section However under section 993 of the Companies Act 2006, 332 of that Act should be read together and that, “the civil section 213’s sister criminal law provision, the proscribed liabilities under subsection (1) and the criminal liability under behaviour may be penalised whilst the company is still in subsection (3) were in pari materia.” normal full legal existence and not being subjected to insolvency The great difficulty of making out this key element in the procedures (s 993(2)). context of the civil wrong has meant that section 213 is perhaps Williams condemns the fact that fraudulent trading civil much more infrequently used than it should be. Fletcher aptly provisions are only engaged when companies are being wound highlights that: “there has been a lack of consistency over the up (R C Williams, “Fraudulent Trading”, (1986) 4 Company years regarding the judicial approach to formulating the test & Securities Law Journal 14, 17).