Not for the first time in the current pandemic crisis, the UK government has found itself playing catch up with other countries. Over the weekend the UK followed the lead of governments in Germany and Australia by announcing plans to introduce a temporary relaxation of the existing wrongful trading regime for company directors. It has also taken the opportunity to revive the previous government's plans to add to the existing UK insolvency law "toolkit" by introducing a new debtor-friendly restructuring law.
Company directors had been placed in an unenviable position by the pandemic and related economic turmoil. Under existing UK insolvency law , directors who continue to trade when an objective director knew or ought to have concluded there was no reasonable prospect of avoiding insolvent liquidation can be personally liable for the company's debts unless he or she has taken every step to minimise potential losses to creditors he or she ought to have taken. This is known as wrongful trading, and results in civil liability.
Given the uncertainty this was causing among directors and their advisors, and the resulting concerns that directors of otherwise viable companies would apply for insolvency proceedings in order to protect themselves against liability, the government has now said:
- Personal liability for wrongful trading will be temporarily suspended to allow directors to continue to trade during the pandemic.
- The extraordinary suspension will apply retroactively from 1 March 2020 for an initial period of three months but with scope to extend that period if needed.
- Liability for fraudulent trading and director disqualification will remain to protect creditors from wrongdoing by directors.
We welcome this move, which ought to relieve a lot of anxiety among conscientious directors of viable companies who are contending with the novel circumstances presented by the pandemic. We will nonetheless be monitoring the situation closely to see whether this step alone is sufficient to give boards the confidence to trade on amidst the current uncertainty.
UK insolvency law reform
While the announcement in relation to wrongful trading liability will be of immediate relevance to the crisis, more significant was the announcement that the pandemic has given fresh momentum to the previous government's plans to reform UK insolvency law . Readers will recall the publication in August 2018 of the government's response to its consultation on potential reforms to insolvency law which set out bold new plans for a debtor-in-possession restructuring law which would allow troubled companies to propose a plan in a similar way to US chapter 11 debtors. Passage of this legislation will now be prioritised.
Of the 2018 proposals, the government's announcement specifically references three:
- The need for a new restructuring moratorium for viable companies undergoing a restructuring process to allow them time to negotiate an out-of-court restructuring.
- Preservation of a company's ability to continue to access essential supplies such as energy, raw materials or broadband while it undergoes a restructuring.
- A restructuring "plan" which will bind all creditors.
If implemented, the 2018 proposals will represent the most significant reforms to UK insolvency law since 2002. For the first time, a restructuring plan will be capable of implementation without the consent of each class of creditor through a cross-class cram-down mechanism subject to a modified version of the Chapter 11 absolute priority rule.
The re-introduction of the proposals to the legislative agenda will come at a critical time for business and could make a real difference to the survival of thousands of viable companies currently caught up in the pandemic. The legislation would have greater impact if the 2018 proposals were expanded to allow companies which are actually insolvent as a result of the pandemic (but which are otherwise viable) to access the moratorium rather than limiting access to "prospectively insolvent" companies, as the government previously proposed. The reforms are also likely to be welcome news for the UK insolvency industry generally in an increasingly competitive international market. Since the 2018 proposals were published, the EU Restructuring Framework Directive has become law. It will introduce into law a similar concept of restructuring proceedings in the EU member states (excluding the UK since Brexit became effective) - see our alert from earlier this year. Revival of the 2018 proposals and promptly translating them to the statute book ought therefore to help the UK retain its pre-eminence for cross-border restructuring relative to other European jurisdictions while also more closely aligning it to legal concepts which will be increasingly prevalent within the legal systems of the remaining member states.
The government's announcement is short (click here to view) and the detail of proposed legislation will need to be closely scrutinised when it is made available. The reforms will be introduced in Parliament "at the earliest opportunity". In practice, this will depend on whether Parliament is able to return from recess on 21 April.
The proposed reforms are a welcome step in difficult times. But a balance will need to be struck between expediting the passage of legislation and getting the new legal technology right - both for the current pandemic situation and for the future. The government should revisit the scope of the 2018 proposals to ensure they are wide-ranging enough to save viable companies. Similarly, the government should assess the need for further reforms (albeit on a temporary basis) in relation to other key UK insolvency laws, particularly in relation to the deeming of technical insolvency under the Insolvency Act 1986 and creditors' rights to petition for winding up.