Wrongful /Fraudulent Trading – explained

By May 24, 2024No Comments

Acting as a director of a successful profitable company is all fine and dandy; it can even be a ‘relatively’ stress free experience but what happens when inflation or recession bite, trading conditions deteriorate and profits drop away?

To make matters worse, when the economy shrinks, customers often take longer to pay – adding to cash flow difficulties and heaven forbid, some of them may not even be able to pay at all. At this stage profitability is just a distant happy memory. All of this makes for very uncomfortable board meetings – most likely with sleepless nights in between.

Directors of such companies are faced with a constant dilemma; Either continue to trade; hopefully out of difficulty or pull the plug and call an insolvency practitioner. Neither option is very palatable, calling in the insolvency practitioner is a difficult decision, – directors may consider it an admission of defeat, but if the company continues to trade when it should have ceased then the directors may become personally liable. This will be due to their culpability to either Wrongful Trading or Fraudulent Trading.

Wrongful Trading.

The offence of ‘Wrongful Trading‘ is committed when a company continues to trade where there is no reasonable prospect of it avoiding insolvent liquidation. Where a liquidator considers this has occurred, the matter can be referred to the court who can order the director(s) to make a financial contribution to the company. Wrongful trading is not a criminal offence, but it can result in disqualification as a director for up to 15 years in the UK. The basic steps to avoid it, are (i) Cease trading as soon as insolvent liquidation looks inevitable (ii) Act to safeguard creditors interests.

Fraudulent Trading.

The offence of ‘Fraudulent Trading‘ is a much more serious offence. It is a criminal offence in the UK under s 993 CA 2006.

“If any business of a company is carried on with the intent to defraud creditors of the company or creditors of any other person, or for any fraudulent purpose, every person who is knowingly a party to the carrying on of the business in that manner commits an offence”.

This is fairly self-explanatory and it can only be committed where ‘intent’ was present. The penalty on conviction is a prison term (up to 10 years) and a fine  –  also civil penalties apply.

In summary, if you are a director keep a close eye on finances as if you know – or should have known – that your company is in financial trouble but it continues to trade anyway, you could be held personally liable for any losses incurred by the company’s creditors.