When a Company is heading towards insolvency, the Directors’ duty to put shareholders’ interests first is replaced by an obligation to prioritise the interests of its creditors by doing everything possible to mitigate the losses they might be suffer.
This is a time when Directors are at heightened risk of prosecution for certain actions they take that harm creditors’ interests if the Company later goes into either insolvent Liquidation or into Administration. One of the most common accusations they can face is allowing the Company to undertake a Transaction at an Undervalue (TUV). The personal financial consequences for Directors of being found guilty of this offence can be very serious.
What is a Transaction at an Undervalue?
A Transaction at an Undervalue is when business assets are sold or otherwise disposed of for significantly less than their true value, or ‘gifted’ with no consideration at all being paid. Examples include:
- Assets transferred to someone connected to the business, such as a family member, a Director or a shareholder and no payment is received in return.
- Assets transferred to an independent third party, but again with no consideration being paid to the Company.
- Assets sold for significantly less than its market value.
- Assets transferred to a separate new or existing Company controlled by the Directors or shareholders either for no payment or a below-value price.
- Funds moved out of the Company without justification. Often this will be money going to a Shareholder or a Director, such as a dividend or excessive remuneration.
- Debts owed by a shareholder, director or other connected party written off without justification.
Who takes action against TUV?
TUV claims are pursued by a Liquidator or an Administrator under Section 238 of the Insolvency Act 1986, but the right of action can be assigned to a creditor.
What happens if the court finds the TUV allegation proven?
The Court has wide discretion about what order it can make. The first objective is to restore the Company to the position it would have been in if the transaction hadn’t taken place. For example, it might order that the asset be transferred back to the Company, or if that cannot be achieved, then as an alternative it may order one or more parties benefitting from the TUV to pay compensation to the Company.
How long prior to the insolvency are transactions vulnerable?
The transaction needs to have taken place within two years of the commencement of the Administration or Liquidation, but at a time when the Company was unable to pay its debts or became unable to do so because of the transaction.
If the transaction was with a connected party, then it is presumed that the Company was unable to pay its debts at the time of the transaction, so the burden of proof moves to the accused party, who must then satisfy the Court that the Company was solvent at the time.
Who counts as a connected party?
A person is connected to the Company if they are a Director or shadow Director, or are an ‘associate’ of the Company or a Director of it. The term ‘associate’ is very widely defined and includes:
- Family members such as spouses, children, parents, or siblings.
- Business partners or co-Directors in the same company.
- Other Companies controlled by the same Director.
- Other associates of the Director, which can include employees or entities where the director has a significant interest or influence.
Defence to any claim
The Court will not make an order if it is satisfied:
- That the Company entering into the transaction did so in good faith and for the purpose of carrying on its business, and
- The Company had reasonable grounds for believing that the transaction would benefit the Company.
Proving this will be dependent on the particular circumstances of the Company and the transaction at the time. This defence is usually less effective if the transaction was with a connected person.
What can Directors do to avoid being found liable for a TUV?
When the Company is facing financial problems and there is any risk of insolvency, it is vital for Directors they are aware on a constant basis of the its full financial position, so they have a realistic view of likelihood of failure and can judge if a transaction might be attacked later as a TUV.
Board meetings need to be held, at which decisions to dispose of assets are taken and confirmed in detailed minutes. The minutes must not just record the decisions themselves, but also the reasons for them, so that the thinking at the time and why the transactions would be beneficial for the Company can be explained in the event of a transaction at an undervalue claim.
Where possible, at least one independent professional valuation of any assets to be sold or transferred should be obtained prior to the transaction going through, in order to combat any future accusations of a TUV. The valuation needs to be noted in the minutes of the relevant board meeting.
Taking professional advice from an independent insolvency expert such as a solicitor or an insolvency practitioner before entering into the transaction is wise where there is any doubt about it being attacked as a transaction at a undervalue in the future.
What are the downsides of TUV for Directors?
Directors found to be responsible for initiating or facilitating a TUV face a range of potential penalties, including:
- Personal liability for some or all of the company’s debts.
- Fines, criminal prosecution and imprisonment if serious unlawful conduct is established.
- Disqualification as a director for up to 15 years.
At Opus, we have extensive experience assisting business owners and directors with concerns and challenges, and we will always work with you to find the best solution for you and your business. If you would like to speak to us, one of our Partners would be more than happy to have a non-obligatory, confidential chat with you. We can be contacted at rescue@opusllp.com or call us on 0203 995 6380 and we will arrange for a call with one of our specialists.