26 Jul — 21

Insolvent Trading, Wrongful Trading, Fraudulent Trading?

What are they, how do I know I'm doing them and what can I do if I realise I am?

Let's not beat around the bush here. Wrongful and fraudulent trading are really serious and can result in some quite hefty sanctions for company directors, including being found personally liable for company debts. 

What are they really, how can you avoid them and what should you do if you think you might have committed one of them. 

Insolvent Trading

This is actually more common than you think because the definition is when an insolvent company is unable to meet its financial obligations as they fall due. 

But isn't this just short-term cash flow problems? Yes it could be! For example if your customers don't pay on time. 

So whilst a company may be temporarily insolvent, perhaps on any given day, it may not be indefinitely insolvent. If money owed to the company exceeds its creditors, an investigation would show that there was no intent to act irresponsibly. So long as you act reasonably and responsibly, prior to the company's insolvency, you should be safe from wrongful trading. 

Always put the creditors' interests first. 

Wrongful Trading

However, wrongful trading or 'trading irresponsibly' is a civil offence. It occurs when company directors continue to trade when they knew, or ought to have known that there was no reasonable prospect of avoiding insolvent liquidation and they didn't take every step with a view to minimising potential loss to creditors (section 214, Insolvency Act 1986). 

A company that cannot, and never will be able to meet its financial liabilities, may well be wrongfully trading. It is unlawful (not authorised by law) to trade when there is no hope of recovery. 

Examples of wrongful trading include : 

- Not operating PAYE properly and failing to pay PAYE and NIC as they fall due 

- Not operating the VAT scheme properly and building up arreares

- Taking excessive salaries which the company cannot afford 

- Taking credit from suppliers when there is no reasonable prospect of paying them back or on time 

- Piling up debt 

- Taking money from customers with no intention or ability to deliver the product or service. 

In wrongful trading there is no intent to defraud, but it's more a case of hoping things will improve even though matters continue to spiral downward. It is often a case of poor judgment or failure of directors to carry out their responsibilities. 

Fraudulent Trading 

Fraudulent trading is much worse. It is a criminal offence. The difference between wrongful and fraudulent trading is intent. Directors have a clear intent to deceive and defraud their creditors and customers. It must be proven that the directors carried on business activities with no intention to repay its debts. 

Ok, so what do I do? 

Avoidance is better than cure. To avoid finding yourself in this situation, always act in the best interests of your creditors. Keep accurate records of all company transactions, as well as minutes of board and shareholder meetings. You may think this is overkill, but trust me, you won't think that if you get accused of wrongful or fraudulent trading in the future. 

You could make arrangements regarding repayment of debts such as 'Time to Pay' arrangements with HMRC or entering into a Company Voluntary Arrangement (a legally binding arrangements to repay your creditors over a certain period of time) or going into administration (a rescue mechanism for insolvent companies to enable them to continue to trade). 

Act reasonably and responsibly with your creditors in mind and if in doubt, seek more formal advice either from a solicitor or insolvency practitioner. 

Elsewhere at The Hub
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15 Jun — 21

What are my duties as a company director?