If your company is struggling to pay its bills, continuing to trade does not automatically mean that you are guilty of wrongful trading. The risk generally arises when a director knew, or ought to have concluded, that there was no reasonable prospect of the company avoiding insolvent liquidation or insolvent administration, but failed to take appropriate steps to minimise potential losses to creditors.
This is a serious issue because a court can order a director to contribute personally to the company’s assets. However, personal liability is not automatic simply because the company is insolvent or eventually enters liquidation.
💡 Quick answer
Wrongful trading can arise when a director continues trading after they knew, or ought to have concluded, that the company had no reasonable prospect of avoiding insolvent liquidation or insolvent administration, and they failed to take every step they ought to have taken to minimise potential losses to creditors. Trading while insolvent is not automatically wrongful, and a director does not automatically become responsible for all company debts.
Is trading while insolvent automatically wrongful?
For example, continuing to trade may be reasonable where there is reliable evidence that the company can improve its position through:
- New funding that has a realistic prospect of completing
- A credible turnaround plan
- A sale of part or all of the business
- A Company Voluntary Arrangement
- Administration
- A properly supported agreement with key creditors
The fact that a rescue attempt ultimately fails does not, by itself, prove wrongful trading.
The central question is whether there was still a reasonable prospect of avoiding insolvent liquidation or administration at the time the decision to continue trading was made. Directors should base that decision on current financial information rather than optimism alone.
If the position becomes unsustainable, directors must reconsider whether continued trading is likely to increase creditor losses.
When can wrongful-trading liability arise?
In a liquidation, a claim may arise where:
- The company has entered insolvent liquidation.
- Before the liquidation, a director knew or ought to have concluded that there was no reasonable prospect of avoiding insolvent liquidation.
- From that point, the director failed to take every step they ought to have taken to minimise potential losses to creditors.
A corresponding provision applies where a company enters insolvent administration.
The liquidator or administrator can apply to court. The court may then order a director to make an appropriate financial contribution to the company’s assets.
This does not mean that every director of a failed company will face a wrongful-trading claim. The company’s financial position, the information available, the decisions made and the steps taken to protect creditors will all matter.
What does “knew or ought to have concluded” mean?
A director cannot necessarily avoid responsibility by saying that they did not understand the accounts or left financial matters to someone else.
The court may consider both:
- The knowledge, skill and experience reasonably expected from someone performing that director’s role
- The director’s actual knowledge, skill and experience
A finance director, for example, may be expected to possess greater financial knowledge than another board member. However, all directors retain responsibilities for the company’s affairs.
Directors can use accountants, financial advisers and other professionals, but delegating work does not remove their responsibility to understand the company’s position and make appropriate decisions.
What should directors do to minimise creditor losses?
The right steps will depend on the company’s circumstances, but directors should normally consider:
- Obtaining reliable and up-to-date financial information
- Preparing and regularly updating cash-flow forecasts
- Reviewing aged creditors, tax liabilities and loan repayments
- Holding properly recorded board meetings
- Documenting why particular decisions are being made
- Protecting company assets and financial records
- Avoiding commitments the company is unlikely to fulfil
- Taking care before paying connected parties or selected creditors
- Seeking professional advice about rescue and insolvency options
- Keeping the decision to continue trading under frequent review
Taking advice does not automatically prevent a wrongful-trading claim. However, obtaining timely advice, providing complete information and acting on appropriate recommendations can help demonstrate that the directors took the company’s position seriously.
For more detail on the practical decisions directors should make, read our guide to director duties when a company is insolvent.
Situations that can increase the risk of wrongful trading
No single action automatically proves wrongful trading. The conduct must be considered alongside the company’s financial position and the director’s knowledge at the time.
Situations that may increase the risk include:
Taking customer deposits for orders that are unlikely to be fulfilled
Continuing to accept substantial advance payments may increase creditor losses if the company lacks the resources or realistic prospects needed to fulfil the orders.
Ordering goods or services without a realistic means of payment
Using additional supplier credit may be difficult to justify if the directors know that the company is unlikely to pay and there is no credible rescue plan.
Taking on further borrowing without a viable repayment plan
Borrowing is not automatically inappropriate. The concern is whether further finance offers a realistic route to recovery or simply increases the eventual shortfall.
Continuing to accumulate tax arrears
HMRC debt does not automatically mean a company must stop trading. However, repeatedly using unpaid VAT, PAYE or Corporation Tax to fund continued losses may indicate that the company’s position is worsening.
Ignoring deteriorating financial information
Directors may increase their exposure if they continue trading without reviewing accounts, forecasts, creditor action or other evidence that the company’s position is becoming unsustainable.
Paying directors or connected parties while other debts increase
Director remuneration, loan repayments and payments to connected parties require particular care during insolvency. Depending on the circumstances, these transactions may raise separate issues involving preferences, misfeasance or breaches of duty.
Can a director become personally liable for company debts?
A limited company is legally separate from its directors. Its debts do not normally become the personal debts of a director merely because the company cannot pay them.
Where wrongful trading is established, however, the court may order a director to contribute personally to the company’s assets.
The amount is determined by the court and will depend on the circumstances. It is not necessarily equal to every debt owed by the company, and a wrongful-trading claim does not automatically transfer all company liabilities to the director.
Personal liability may also arise through other routes, including:
- A personal guarantee
- An overdrawn director’s loan account
- Misfeasance or breach of duty
- Fraudulent trading
- Unlawful dividends or other improper payments
- Certain tax-related notices or liabilities
- Transactions intended to put assets beyond the reach of creditors
These are separate issues with different legal tests. Our guide to when directors may be personally liable for company debts explains the wider position.
Who can face a wrongful-trading claim?
A claim can potentially affect someone who is or has been a director of the company.
Depending on the facts, this may include:
- A formally appointed director
- A person acting as a director without valid appointment, sometimes called a de facto director
- A shadow director whose instructions the company’s directors are accustomed to follow
Resigning as a director does not erase responsibility for decisions made while you held office. Equally, someone who controls company decisions may not necessarily avoid scrutiny simply because they were never formally registered as a director.
Is wrongful trading a criminal offence?
Wrongful trading is not itself a criminal offence. It is a form of civil liability that can result in a director being ordered to contribute to the company’s assets.
This differs from fraudulent trading, which involves carrying on the company’s business with intent to defraud creditors or for another fraudulent purpose.
Fraudulent trading requires dishonesty or fraudulent intent. Wrongful trading does not require the same dishonest intention. A director may have acted honestly but still face a claim if they continued trading beyond the relevant point and failed to take the steps they ought to have taken to minimise creditor losses.
What is the difference between wrongful trading and misfeasance?
Wrongful trading concerns continuing to trade after the point at which there was no reasonable prospect of avoiding insolvent liquidation or administration, without taking appropriate steps to minimise creditor losses.
Misfeasance is broader. It can involve a director breaching their duties, misapplying company money or property, retaining company assets or otherwise causing loss through improper conduct.
The same period of company distress may involve allegations of both wrongful trading and misfeasance, but they are separate claims with different legal requirements.
Read our dedicated guide explaining misfeasance by a company director.
Can wrongful trading lead to director disqualification?
Director disqualification is a separate process and is not automatic whenever a company fails.
However, the conduct of directors is reviewed when a company enters formal insolvency. Continuing to trade to the detriment of creditors may contribute to a finding that a director is unfit to manage a company.
Other conduct that may be considered includes:
- Failing to keep adequate accounting records
- Failing to submit accounts or tax returns
- Misusing company assets
- Failing to cooperate with an insolvency office-holder
- Making transactions that unfairly benefit particular parties
- Allowing company debts to increase without properly considering creditors
The consequences will depend on the facts. Company failure alone does not establish misconduct or mean that a director will be disqualified.
What should you do if your company is insolvent?
Instead:
- Establish the company’s current financial position.
- Stop relying on outdated forecasts or unconfirmed funding.
- Review whether new orders and commitments can realistically be fulfilled.
- Record board decisions and the information used to make them.
- Protect company assets, books and records.
- Avoid unusual payments or asset transfers without appropriate advice.
- Obtain advice on rescue, restructuring and insolvency options.
- Review the decision to continue trading regularly.
Depending on the circumstances, the available options could include continued trading under a credible recovery plan, refinancing, a Company Voluntary Arrangement, administration, a sale of the business or a Creditors’ Voluntary Liquidation.
Liquidation is not automatically necessary simply because a company has debt. The appropriate route will depend on viability, cash flow, creditor pressure, available funding, asset values and the conduct of the directors.
Get advice before the position worsens
It is understandable to want to keep a business going, particularly where employees, customers and years of work are involved. The important point is to make decisions using reliable information and to consider how those decisions may affect creditors.
You do not have to decide on a formal insolvency process before speaking to someone.
Business Helpline offers free, unbiased initial advice to directors of limited companies experiencing debt and financial difficulty. Call our 24-hour helpline on 0800 088 2142 for an initial, no-pressure conversation about your company’s circumstances and the options that may be available.
