Is it possible to face personal bankruptcy for company debts?

Are limited company directors at risk of bankruptcy if they can’t afford company debts?

Limited company directors benefit from legal protection called limited liability, protecting them from personal liability for company debts or bankruptcy. Exceptions arise if you provided a personal guarantee or engaged in director misconduct.

When may your business start to fail? 

Cash flow issues typically serve as the initial indication that your company is facing challenges. At this early stage, seeking professional advice is crucial. 

While it’s understandable that directors might try to trade their way out of difficulty, it can exacerbate the problem significantly.

It is a legal requirement to halt trading as soon as you suspect your company is insolvent or likely to become insolvent soon. Failing to do so could lead to director disqualification, personal liability, and potential bankruptcy.

Could a director face bankruptcy if their business fails?

Establishing a limited company protects from personal liability as a director in many cases. If your business fails, your liability is generally confined to the capital you invested in the company.

There are situations where the risk of director bankruptcy becomes possible, especially when your company becomes insolvent. The safeguard you enjoy as a company director can be lifted, a process often termed as ‘lifting the veil of incorporation’.

If your creditors endure significant financial losses and you are discovered to have acted wrongfully as a director, or if fraudulent activity is established, the courts might opt to hold you personally accountable for some or all of the company’s debts.

Under what conditions can directors be declared bankrupt?

Neglecting to prioritise the interests of creditors may prompt the liquidator to pursue you for any extra company debt incurred from the date of insolvency – possibly even before this date if fraudulent activity is detected.

Essentially, this means stopping trading, ensuring the company avoids incurring additional debt and refraining from accepting new orders or deposits from customers. Seeking professional assistance, if not already done, is also advisable.

When the liquidator commences their inquiries, you must demonstrate that you’ve exerted every effort to maximise financial returns for creditors and that no ‘questionable’ transactions have occurred.

These might involve:

1. Preferential payments – prioritising repayment to one creditor over others.

2. Transactions at an undervalue – selling company assets below their full market worth.

3. Distributing dividends to shareholders or drawing a high salary when the company lacks the financial capacity for such actions.

Evaluating Personal guarantees and director bankruptcy

Several lenders require directors to furnish a personal guarantee before granting a company a loan. While this substantially mitigates the lender’s risk, it exposes directors to the risk of bankruptcy if the company collapses, as they become personally responsible for repaying the loan.

In the event of inability to repay, the lender can compel you into bankruptcy, leading your home and other personal assets to risk. Your financial situation is additionally compromised as insolvency hampers your ability to earn a living, unless you have alternative income sources.

How does an overdrawn director’s loan account for an insolvent business? 

It’s commonplace for directors to withdraw funds from their company temporarily, especially during profitable times. However, if your company becomes insolvent and your director’s loan account is in the red, the liquidator will seek repayment from you to enhance returns for creditors.

This could lead to a challenging financial situation if you lack the funds to repay. As mentioned above, personal guarantees may leave you vulnerable to the risk of bankruptcy, as you are obligated to reimburse the funds withdrawn from the company.

Read More: 

• What can a supplier do if you don’t pay for stock
• Understanding IVAs and how this can affect your ability to run a limited company
• What Happens if a Director is owed money by their own Company
• Can I resign as a director but keep my shares in the company
• Can I run my UK limited company from abroad

 

Are sole traders more vulnerable to bankruptcy compared to company directors?

As a sole trader, you face a higher risk of bankruptcy if your business collapses, as it is not legally distinct from you. Unlike a limited company, creditors can pursue you personally through the courts, endangering your home and other assets.

Consequently, you might be forced into bankruptcy or need to declare bankruptcy to shield yourself from other creditors. While this process enables a fresh start after the bankruptcy period (typically 12 months), your ability to access finance in the future will be greatly restricted.

While being a director of a limited company lowers the risk of personal bankruptcy compared to sole traders, it’s evident that the threat can arise swiftly as soon as any business begins to falter.

Vanguard Insolvency offers assistance to company directors or sole traders concerned about personal bankruptcy. 

There may be alternative solutions, such as an Individual Voluntary Arrangement (IVA), and we can potentially negotiate a manageable agreement with your creditors. Contact one of our team members to schedule a same-day appointment in complete confidence to assess your situation.