Directors' duties post Sequana – a differentiating factor?

As expected, the scope of directors' duties whilst a company is in financial difficulties has been the source of further consideration by the Court. The recent case of Hunt v Singh [2023] EWHC 1784 raised the question as to whether, following the Supreme Court decision in BTI 2014 LLC v Sequana SA, a director's duty to take into account the interests of creditors arises where the company is at the relevant time insolvent if a disputed liability comes to fruition. In Hunt, the disputed liability was to HMRC where the directors (wrongly, as it later turned out) believed that the tax scheme they were involved in worked.

The Supreme Court decision in Sequana

The much talked about decision of Sequana from October last year required the Supreme Court to grapple with the questions of: is there a common law creditor duty at all? If so, what is that creditor duty and when is the duty engaged? The Supreme Court having decided that there is such thing as a creditor duty considered that the duty is engaged either when the company is insolvent or insolvency is imminent, or when insolvent liquidation or administration is probable. Notably, the majority of the Supreme Court held in Sequana that this duty would only arise if the directors knew of (or ought to have known) of the company's financial difficulties.

Background - Hunt v Singh

Between 2002 until 2010 Marylebone Warwick Balfour Management Limited (the Company) operated a remuneration scheme designed to enable its staff to receive payments structured as non-contractual gratuitous bonuses without the Company incurring liabilities to HMRC by way of PAYE or NIC contributions (the Tax Scheme).

In 2004 HMRC made enquiries and set out their position to the Company that if the payments under the Tax Scheme were in reality "earnings" then NIC and PAYE would be payable together with interest. By 2008 HMRC had issued formal determinations in respect of PAYE and NIC and commenced proceedings against the Company in relation to the NIC liability. At this time the Company's accountants had indicated that the Tax Scheme was "robust" and that "no further action was needed by the Company". However, following a Court of Appeal decision in 2011 which found in favour of HMRC's challenge of the Tax Scheme this meant that the tax liability was due. The result was that when taking account of the total tax liabilities the Company was clearly insolvent.

The Liquidator (Mr Hunt) was appointed in 2017 and HMRC was the largest creditor owed c. £38m. The Liquidator sought equitable compensation from one of the former directors (Mr Singh) and sought against each director the amount that they received because of their breach of duty. The Insolvency and Companies Court Judge dismissed all the claims on the basis that the creditor duty had not arisen, as the directors had taken advice from accountants on the Tax Scheme. 

The Liquidator appealed as against Mr Singh and only in respect of the claim to recover the amount received by him because of the breach of the creditor duty.

The High Court decision 

Zacaroli J noted that "there was essentially one principal question raised by the appeal, namely whether the judge was wrong to conclude that the creditor duty had not arisen." This led to a forensic analysis of the position on when the creditor duty arises in a post-Sequana landscape. 

The Court noted that there was an important distinction between this case and Sequana, as in Sequana there was no doubt that at the time the relevant dividends were paid the company was solvent. Whereas, in Hunt there was no doubt that the Company was in fact insolvent (indeed substantially insolvent) throughout the relevant period. It was noted:

The fact that the Company disputed that anything was due to HMRC does not change the fact that it was insolvent. A disputed liability is not a contingent liability.

Following the Court's finding in Sequana, Zacaroli J held that where a company is faced with a liability of such a size that its solvency is dependent on successfully challenging a claim, then the creditor duty arises if the directors know or ought to know that there is at least a real prospect of the challenge failing. 

The Court allowed the appeal, and the case has been remitted for consideration back to the insolvency court to consider the scope of the creditor duty. Zacaroli J noting that "In light of the importance of the legal issues raised in this developing area of the law…this is the type of case which ought to be tried at first instance by a High Court Judge." 

Take-away

Hunt confirms that where a company's solvency depends upon successfully challenging a liability the directors should undertake a full assessment as to whether a particular liability is likely to be successfully challenged and whether steps should be taken to keep the creditors' interests in mind. If there is a real chance the liability arises, the creditor duty is likely to arise, and directors will be expected to have considered the interests of any creditors when making decisions on behalf of the company.

In this case the creditor was HMRC and the liability arose from an unpaid tax liability however it seems that the same principle would apply if a company was exposed to other liabilities, for example if a company was at the receiving end of a Court judgment which once enforced would mean the company is insolvent. The directors may have strong views that the judgment can be overturned on appeal but as held in this case "a disputed liability is not a contingent liability."

As expected, the Sequana case continues to raise questions as to when the duty owed by directors to their creditors arises and what that duty entails, and this recent case is no exception.