Company Debt - Who Is Liable For It?
One of the main reasons individuals decide to set up a limited company rather than running it as a sole trader is because the company is a separate legal entity from the person running it.
This legal distinction is also known as having limited liability and means that directors cannot be held liable for any debts incurred by the company.
So if directors aren’t liable for company debts, who is?
Are you sure it’s not directors?
There are a few circumstances where directors are liable for company debts. However, as long as the director runs the company correctly, they shouldn’t have anything to worry about regarding company debts. But let’s look at a few of the reasons company directors could be held liable for company debts.
Overdrawn Director’s Loan Account
If the director borrows money from the company, they are held liable for this sum and must pay it back, especially if the amount owed exceeds £10,000.
If the company is to become insolvent while there is an overdrawn director’s loan account, this will be seen as an asset and must be repaid as part of the insolvency process.
If this happens to you, seek professional advice because there are complex rules around this area.
Signing a personal guarantee
When acquiring funding for the company, some directors sign personal guarantees against any loans. Because of these guarantees, the director will have to pay any monies owed if the company cannot make payments towards it.
The debt has accumulated because of fraudulent means
While desperate times call for desperate measures, companies still need to be able to pay back any loans they take out.
If the director, or company, took out the loan without any plans to pay it back, then it can fall on the director to pay it back.
The director has neglected their duties
Also known as misfeasance, a director has failed to follow the rules and regulations as set out in the Companies Act.
When the company goes into liquidation due to misfeasance, a claim can be made against the director for any monies owed.
Disposing of company assets at undervalue (or no value)
When a company enters liquidation, it must sell its assets to repay creditors. If the liquidator feels the assets have been sold undervalue, the director can be made liable for the remaining debt.
Can shareholders be held liable?
Shareholders also benefit from limited liability when it comes to company debts.
When shareholders buy into a business, they are given a share of the company. The amount paid for these shares is usually a nominal value, for example, £1 per share. If the company is ever made insolvent, shareholders are only held liable up to the nominal value of the shares they hold.
As long as the shares are fully paid up, there will be nothing additional to pay when the time comes.
Is there any reason the shareholders would have to pay the debt?
There are four main reasons shareholders would have to pay company debt. These are:
- If they know the company is insolvent, but they keep trading in the interests of the shareholders
- If the shareholders are aware that company assets have been sold undervalue
- If they have raised funds to repay creditors via fraudulent means
- If they create and overdraw a director’s loan account so that they can be paid
The only way the shareholder would know that these have taken place is if they are involved in the day-to-day running of the company.
Because of limited liability, a company is classed as its own legal entity, so ultimately, it is responsible for any debts accrued.
However, there are some circumstances where directors and shareholders can also be held liable for the company's debts.
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