Seven things directors need to keep in mind as the company revolves around insolvency: the Hong Kong perspective

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The impact on the economy of COVID-19 sees no signs of easing in the near term and not a single industry sector has been spared. Economic data shows that GDP is declining in real terms, as is private spending.

Perhaps some of the rounds of stimulus handed out by the Hong Kong SAR government will help cushion the local economy, but in any event any recovery will be uneven at best, with some sectors facing a period of much longer uncertainty than others.

For the foreseeable future, directors will continue to face the difficult task of balancing their primary legal obligations to the corporation (eg, to act in the best interests of the corporation) with the ever-present interests of its creditors.

Directors[1] should keep in mind the following:

1. You can be held personally responsible for fraudulent transactions

In times of financial difficulty, a director is tempted to allow the company to assume one or more debts in order to “keep the company afloat”. Although there is no legal prohibition against trading in insolvency, a director must consider and act in the interests of the creditors as a whole rather than the shareholders when forcing the company to incur debt.

The bottom line is that creditors have an interest in the assets of a company being liquidated or in insolvent liquidation. Failure to take into account the collective interests of creditors near or during insolvency can have serious legal consequences for an administrator.

A director has a legal obligation not to carry on the activities of a company with the intention of defrauding its creditors, the creditors of any other person or for fraudulent purposes.

In other words, a director who makes a company incur a liability must honestly believe that the company would be able to satisfy it. Otherwise, the inference is that the director intended to use the company as an instrument of fraud, and it is open to a court to find the director personally liable for the payment of all or part of the debts or other company liabilities. There is no limit to a director’s personal liability.

A breach of this duty may involve a director or anyone who knowingly aids, conspires or otherwise participates, or deliberately or recklessly overlooks the intent to defraud. Directors sitting on the board of directors must be particularly attentive to any incidental liability; you can be held responsible for the actions of other administrators if you were “told” of another administrator’s fraudulent intent and failed to take action.

2. You can be held criminally liable if you try to reduce the amount of assets available to pay the company’s creditors

A director or officer may be held criminally liable if he intends to commit fraud by taking steps to place the company’s assets beyond the reach of its creditors, or otherwise impair the value of those assets. in the event of liquidation of the company.

Such conduct includes transferring, gifting or encumbering the assets of the company, or concealing or removing any part of its assets before or at any time after the date of a judgment or order for payment of money by society.

3. You can be ordered to indemnify the company for certain behaviors even if you are no longer a director

A current or past director or officer who is guilty of any wrongdoing, breach of duty or breach of trust with respect to the company, or who has misappropriated or withheld or has become responsible for the money or property of the company can be sentenced to:

  • refund or return the money or property to the company with interest;
  • otherwise indemnify the company as the judge deems just.

Fault or breach of duty may include disregarding the collective interests of creditors approaching or during insolvency, or exercising care, skill and diligence in managing the company.

Not all decisions of a director or officer will benefit the company. The law recognizes the balance between risk and reward and provides leeway for the proper exercise of business acumen.

You are more likely to be held liable if you make a decision that no ordinary business person in the same situation would, or if you fail to pay attention to the surrounding circumstances (including seeking professional advice where appropriate) ). In general terms, the greater the risk, the more appropriate it will be to seek professional advice.

4. You can be held criminally liable if you failed to ensure the business kept proper records

A current or past director or officer who failed to ensure that the company kept proper accounts for a period of up to 2 years prior to liquidation is guilty of a criminal offense punishable by a penalty of imprisonment and a fine.

Here, the appropriate accounting records are those defined by law, but basically include records that provide clear information about business transactions, as well as general financial condition and performance.

5. It is an offense to falsify, destroy and/or withhold information of liquidators, or otherwise mishandle company property

A current or past director or officer who is liquidated must not, among other things:

  • not to disclose to the liquidator information about the assets of the company, except for assets sold in the ordinary course of business;
  • not hand over the assets of the company in its custody or control to the liquidator when requested or required by law to do so;
  • conceal any part of a company asset valued at HK$100 or more within 12 months before or at any time after the liquidation of the company;
  • conceal, destroy, mutilate or tamper with (or be aware of such conduct) within 12 months before or at any time after the liquidation of the company;
  • make a material omission in any state of the affairs of the company.

Anyone found guilty of such an act is liable to imprisonment and a fine.

6. You may be disqualified from acting as a director for a substantial period of time

A person may be disqualified or barred from acting as a director for up to 15 years. This extends to establishing, managing or promoting a business and incorporated entities inside or outside of Hong Kong.

In the context of a liquidation, you will be at risk if you are a past or current director or officer and:

  • you are found responsible for fraudulent transactions;
  • you are held responsible for fraud or breach of your obligations;
  • you are deemed “unfit” to engage in the management of a business (there is no statutory definition, but the court will judge the defendant’s conduct against standard standards of conduct for directors).

7. Employees

Wages must be paid no later than 7 days after the last day of a salary period.

Failure to comply with this obligation without a reasonable excuse is a criminal offense punishable by imprisonment and a fine.

A business in financial difficulty is not a reasonable excuse.

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