Coronavirus - a more relaxed approach to insolvency?

On 28 March 2020, the Secretary of State for Business, Energy & Industrial Strategy announced plans to amend current insolvency legislation in a bid to reduce the impact of the ongoing coronavirus pandemic on UK businesses.

Below is an outline of the key changes to current legislation proposed by the Government and their likely effect on company directors and employees.

Wrongful trading

The Secretary of State proposed a temporary moratorium for businesses engaged in a restructuring process to allow them to continue to access resources such as energy, raw materials or broadband, to enable their continued trading. But, perhaps of most interest to company directors is the proposed suspension to the wrongful trading provisions in the Insolvency Act 1986. This states that a director may be personally liable if a company continues to trade when it is insolvent and subsequently enters into an insolvent liquidation or administration. In other words, a situation where the company is 'wrongfully trading'.

The question of when a company is regarded as insolvent is not as straightforward and obvious as one might think. However, in broad terms, there are two main tests of insolvency: (1) the balance sheet test; and (2) the cash flow test. A company is balance sheet insolvent if its liabilities exceed its assets. A company is cash flow insolvent when it is unable to pay its debts as and when they fall due. In such circumstances the liquidator or administrator of the company can look to the directors to personally contribute to the company, in respect of the worsened position caused by that wrongful trading.

The risk of personal liability is often a trigger for company directors to seek advice from an insolvency professional (whether an insolvency lawyer and/or an insolvency practitioner) and thereafter, to put a company into an insolvency process. 

Under the proposed changes, the wrongful trading provisions will be suspended for three months, with the suspension being backdated to 1 March 2020.

In announcing the changes, the Secretary said that the intention behind the changes was to "reduce the burden on business, giving bosses much-needed breathing space to keep their workers employed and their companies going". It is anticipated that, together with the contingency plans relating to loans to business announced last week, these changes will allow directors to continue to exercise their decision-making during the ongoing pandemic without the fear that they could be penalised at a later stage.

Impact on directors

Clearly, one of the key aims of this reform is to keep individuals employed and businesses running during this period of uncertainty. An important caveat to the proposed changes is the Secretary of State's comment that 'all of the other checks and balances that help to ensure directors fulfil their duties properly will remain in force'. It is important for company directors to note that the Government has not relaxed any of the other provisions that may lead to liability for directors, such as misfeasance under s.212 of the Insolvency Act 1986.

Furthermore, the statutory and common law duties imposed on directors remain in place. A director's duty to act in the best interests of the company, and in the best interests of creditors when the company approaches insolvency, remains. Directors should still take advice on their position and consider the ongoing viability of their business. The relaxation of these provisions might, however, give some comfort to continued trading (or furloughing the business) during the lockdown.

Does this affect me?

The proposed changes to insolvency legislation seek to protect directors whose businesses have been directly affected by the coronavirus pandemic. For those directors whose businesses were in distress prior to 1 March 2020 or for whom losses are not wholly attributable to the coronavirus outbreak, it could be argued that the proposed changes do little more than defer dealing with these issues until the suspension on wrongful trading is lifted. 

As a result, directors should still seek professional advice if they are concerned about their business' position and should seek clarity on whether there are any other steps they should be taking in the period whilst the suspension is in force.