Why Directors Facing Insolvency Must Beware Transactions at Undervalue

When a director of a company is facing insolvency, the thought may well occur to them to that it may be a good idea to sell or transfer company assets as quickly as possible in order to protect them.

However, it’s actually a requirement for company directors to maximise creditor returns during insolvency, and therefore by selling or transferring assets at an undervalue they could be considered to be carrying out wrongful or fraudulent trading. Company directors therefore need to be very careful of transactions at undervalue if they are facing insolvency.

What are Transactions at Undervalue?

A transaction at undervalue is a transaction which doesn’t reflect the asset’s true market value. This can be either a sale of an asset or a transfer of assets. This can be a problem as company directors are required to maximise their creditors’ returns during insolvency, and as such these transactions can be seen as fraudulent or wrongful.

During insolvency, it is the job of insolvency practitioners to closely inspect all company transactions, and they will highlight any that they feel are questionable or suspicious. Administrator and liquidators then have the power to apply for a court order which can reverse any transaction at undervalue and restore the situation to the state it was at before the transfer or sale took place.

It’s not just the most recent transactions that will be inspected, either; insolvency practitioners may look into a company’s transactions for up to two years before the point where they went into administration. If they find any transaction which has a significantly reduced value, or gifts which have been made without an associated payment, they are duty bound to make a report to the Secretary of State.

How are Undervalue Transactions Penalised?

Transactions at undervalue are a breach of the Insolvency Act 1986, meaning that company directors that undertake this practice could face both financial penalties as well as the prospect of criminal prosecution. Indeed, company directors can be held personally liable for some or all of the company’s debts, and may also be disqualified for up to 15 years if it is believed that they have traded wrongfully during insolvency.

Following Formal Insolvency Procedures

It’s therefore extremely important that company directors think very carefully before they decide to trade at undervalue in order to try to protect company assets. Creditor interests must always come first, and if you want to avoid any accusations of transactions at undervalue, it’s important that company directors follow a formal procedure for selling or transferring assets.

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