Limited Liability

When you have it and what it means.

Limited liability: it’s straightforward, right?

Well, mostly yes.  If you’re in business as a sole trader, then you don’t have limited liability.  Similarly if you are in business as a partnership.  If the business gets into trouble, you’re going to be liable for its debts.  There will be no limited liability.

However if your business operates through a company or an LLP – a limited liability partnership – the position is different.  The clue is in the names: “limited company” and “limited liability partnership”.  With companies and LLPs you have limited liability.

Nevertheless I recently had a client whose business partner – someone he owned a company with was telling him he was going to be made bankrupt because the company had debts.   My client’s business partner didn’t seem to understand what limited liability meant.

So what is it?

In relation to a company, it means the shareholders in a company won’t be liable for the company’s debts.  In relation to LLPs, it means the members of the LLP won’t be liable for the LLP’s debts.  The same generally applies to the directors of a company.  This is because the company is a separate legal person, and debts of a company are the company’s debts, not those of either its shareholders or directors.  Hence the director and shareholders have no liability.

That at least is the theory and it’s (almost entirely) correct.  As shareholders and as directors they don’t. 

In the real world however it may not always be quite as simple as that. 

Let’s say, the company owes some money to a bank.  It may have been a condition of that loan that the directors give personal guarantees, whereby they will agree to repay the bank if the company does not.  So in this situation the directors may be responsible for some (or all) of that debt, but only (generally) if they have given a guarantee.

Something similar may also sometimes apply in relation to company credit cards, to equipment leases and to arrangements with suppliers: the credit card company, the equipment supplier or the supplier who has granted credit may only have agreed to do so on the basis that there was an individual who will be standing behind the company’s obligations to pay.

But any obligation like this would be a separate obligation which the individual concerned would have entered into.  Generally in the absence of these, limited liability means no liability (strictly speaking no liability beyond what they have already contributed as shareholders).

Nevertheless, there are three important exceptions to all this.  

• The first is for some years it’s been possible, very occasionally and in very limited circumstances, to “lift the corporate veil”.  This means to go behind the corporate veil to “attack” the shareholders and directors behind the company.   It hasn’t happened very often, but the Finance Act 2020 looks set to extend the ability of the tax authorities in particular to lift the veil in relation to tax.  This means directors and shareholders of a company may now find themselves liable for the company’s unpaid taxes.
• A second exception relates to fraud, in particular fraud in relation to creditors (hopefully you won’t be going there).
• The third also relates to creditors, but it is rather wider.  It applies to directors rather than shareholders, and it means directors can, in one important situation, find themselves liable for the company’s debts.

If you are a director of a company, and the company is failing, and you know (or really ought to know) that the company won’t be able to avoid insolvency, you have a duty to do all you reasonably can to protect the interests of the company’s creditors.  So, for example, if you carry on trading in this situation and racking up further debts, you may have to make a contribution to the company’s assets. 

This is a really important thing to bear in mind, if you are a director and the company is getting into trouble.  If you think it may be “getting close” as it were, it’s important to take advice.

If your business needs advice and support, please contact Adrian Chaffey, a specialist Corporate Lawyer in the team at Kerseys Solicitors in Ipswich on tel:01473213311 or Kerseys Solicitors in Colchester on tel:01206584584 or email us at [email protected], alternatively you can visit our web site and click “Call Me Back” and a member of our Commercial team will be happy to contact you.