Phoenixes and personal liability for the new company’s debts

Two of the major underlying themes of the UK insolvency legislation are the promotion of an entrepreneurial spirit amongst the business community, where reasonable risk-taking is encouraged, and a ‘rescue culture’ enabling businesses to be recycled quickly and efficiently when things go wrong.

One of the ’safeguards’ on these themes has received more prominence recently, even though the law in this area is over 20 years old!  The part of the law receiving more attention is the ‘re-use of companies’ names’ whereby the business name or trade name (and this can even be a logo!) of an insolvent company is used going forward by a phoenix company.  To prevent the misuse of ‘phoenixism’, Sections 216 and 217 of the Insolvency Act 1986 provide that where a director (or ‘shadow director’) of the old, failed, company is involved in a phoenix which uses the name used by the old company, he has to jump through several hoops to use the name with impunity.  If, for any reason, he does not go though all the hoops, he can be made personally liable for the debts of the new company should it too fail.  It is also a criminal offence which could open up the director to a fine, imprisonment or being disqualified as a director.  But by far the most damaging is the fact that mere technical breaches in procedure will mean the director becomes personal liable for its debts.  Some directors have already been made bankrupt and lost all they have worked so hard for as a consequence of technical breaches of the law, even though they tried to comply but failed to dot all the ‘i’s and cross all the ‘t’s or did not know of the existence of the relevant legislation!

And this is not a hollow threat to directors as recently there have been several cases where major funders to the phoenix company have picked up on this.  Debt factoring companies and other banks certainly seem to have taken this on board, initiating action through the courts to make directors personally liable for company debts, including theirs.  So you can expect major creditors, such as the banks, the Revenue, and major trade suppliers to see this as an easy way of securing a recovery on their debt.  And often it is a real sucker punch, simple to prove, for which there is really no defence: either the procedures have been followed fully, or they have not, there is no middle ground for debate, the law is clear!

The most common mistake that directors seem to have made before the advent of a new Insolvency Rule in July 2007 was to get themselves appointed to the board of the phoenix before they ‘get creditors’ approval’ to do so.  The law up to July 2007 required that directors give at least 21 days notice to the creditors of oldco of their intention to act as a director of the phoenix: but most of the time they had already set up the phoenix and appointed themselves as a director in readiness to complete an acquisition of the business from the Insolvency Practitioner.  This meant that the creditors had not been consulted properly under a strict interpretation of the law.  If you have breached the old law, you need to take legal advice on how to best protect yourself.  The sooner you do this the better.

So how do you protect yourself now, under the new Rules?

The good news is that it is a little, but only a little, easier.  You have to serve notice on the creditors and put an advertisement in the London Gazette of your intention to use a similar name, and this can be done before of after you have bought the assets from the Insolvency Practitioner, and before any liquidation of the company (so it can be done while the company is merely in Administration).  You can already be a director of the new company, but you should not have taken any actions as a director.

My other tips are:

  • Take advice from a Licensed Insolvency Practitioner or lawyer experienced in insolvency before you attempt to buy back the assets out of insolvency.
  • Do not try to shortcircuit the procedures, it cannot be done.  Consider the steps you need to take to comply with s216 when negotiating a deal with the IP and planning any continuation of trade.
  • Just because the old company is not in liquidation yet (for example, it may only be in Administration or Receivership) does not mean that s216 will not apply sometime down the line.  If it goes into insolvent liquidation later on, s216 will be triggered even if you have already bought the business and assets through the phoenix.  Think ahead, treat s216 as a threat now, regardless of the procedure the old company is to go into.  If the old company is in Administration or Receivership, re-consider the exit route from that procedure.  Could a CVA, which avoids s216 issues, be appropriate?: talk early to the IP about the exit route, and assess how achievable that route is.
  • If you have already breached s216, consider going to court to get its approval.  Or shut the phoenix company down, paying all the debts and opening up yet another new company, complying with the law this time around, either giving notice to the creditors of the old company of your intentions or going to court.  Another alternative could be to use a members’ voluntary liquidation or s110 Insolvency Act reconstruction procedure. Take advice on the most appropriate route for you.
  • Do not ignore s216: it is a very real threat.  Spending money now to obtain good advice is a good investment, it will save you a great deal of cash and heartache later on down the line.
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