When a limited company faces insolvency there is a strong likelihood that, unless an Administrator can make immediate changes to restructure the business and make it
both profitable and saleable, it will close. The consequence for employees of both restructuring and insolvency is that they could face redundancy. But what about directors? Directors, particularly underperforming ones, can be a drain on a struggling business and an Insolvency Practitioner may decide to dispense with their services. What about a situation where a small limited company has one major controlling, or managing director. Could that director, knowing that the business is in trouble, simply close it and walk away with a £30,000 tax-free Statutory Redundancy package? Usually, the simple answer to this is "no" but sometimes "yes", for the reasons given below.
The role of shareholders
In order to remove a director of a company, shareholders must be consulted and vote on the proposal. The process for conducting such a vote, and the action to take after it, should be documented in the company’s Articles of Association. Companies House
must be notified of any changes so the name of the director can be removed from the record.
Can directors receive redundancy pay?
In order to receive redundancy pay the director must be employed by the company and be able to prove it. The following pieces of evidence help to prove this:
- There is an unambiguous contract of employment between the director and the separate entity (company) which sets out conditions of employment, such as the duties of the director, hours of employment, salary etc.; and
- The director is paid a wage by the company from which PAYE is deducted.
Some directors do not receive a wage and are paid a dividend as a
shareholder instead. In these cases there is no entitlement to Statutory Redundancy Pay. As simple as deciding whether a director is employed by the company appears, there has been a number of Employment Decisions recently which have helped to contribute to Case Law on the subject. This shows that sometimes, things can become very complicated. The example of a Managing Director with a major controlling stake is a good example. The common
misconception is that such a director would not be entitled to redundancy pay; however, there is Case Law which doesn’t uphold that view.
Owing to the number of variables, this is definitely an area where expert
advice would prove beneficial.
Entitlements when a director is employed by the
A director employed by the company is, like any
other eligible employee, entitled to redundancy and other payments,
including outstanding wages, holiday pay etc. The amount of the payment
will be determined by the length of service (they must have had at least
2 years of consecutive employment), the age of the director, employment
history, and current rate of pay.
Calculating redundancy pay
If the director started working for the company before the age of 22, they will receive a
half of a week’s pay for every year between commencing employment with the company and age 22. For each year worked between the ages of 22 and 41, 1 week’s pay will accrue; Each year worked
from the age of 41 will attract 1.5 week's pay. For this calculation the
length of service is capped at 20 years.
Applying for redundancy pay
If the company is unable to meet its obligations the Redundancy Payment Service (RPS), which operates as part of the Insolvency Service, under the Department for Business and Innovation, will become involved if:
- The company is formally insolvent;
- The directors can prove they were employees of the company.
In addition to the initial, standard online claim for directors, the RPS will also require a completed form RP3. If the directors cannot get satisfaction from either the employer or the RPS they can look to take their case to an Employment Tribunal.
Directors who have given guarantees on borrowing
Redundancy does not release a director from any personal guarantees they have given to creditors on the repayment of loans; only a creditor can do that. Other directors can propose to a creditor that they release the redundant director from the personal guarantee by taking it over. Creditors are only likely to accept this if the directors making the offer have the resources available to repay the loan and those resources are protected in a way which will also enable payment to be made in future. Another option is for the directors to agree to repay the redundant director should the guarantee be invoked by the creditor. This only carries weight if the directors have the means to be able to do this. Guarantees often cover several different products with the same lender; this means that paying-off one loan does not necessarily cancel the guarantee a director has given.
Directors as creditors
A director who is made redundant, and seeks to recover any loan made to the company may, subject to the terms of the loan, be able to obtain repayment. However, they may find they have to pay back the recovered loan if the company then becomes insolvent; particularly if insolvency is directly related to
or in close proximity to the repayment of the loan.
Directors as shareholders
Share holding is often used as a bargaining tool when a company is in trouble and needs to raise funding. However,
subject to any requirements in the Company's Articles or a Shareholders
Agreement directors who are made redundant cannot be forced to sell their shares. The fact that the present value of shares is low is not an indication of potential future value, particularly if a struggling company turns the corner and becomes successful.
A final word
Directors made redundant by a company which also employs them are entitled to redundancy pay like any other employer and have every right to pursue their entitlement. However, depending on the size of the business, the status of the directors in question, their level of investment in the company and any personal guarantees they may have given to creditors, matters can become very complex. Directors are therefore encouraged to take professional advice as soon as the likelihood that they could be made redundant arises.
If you are a director of a company that is placed into formal insolvency
we can assist you with the completion of documents required by the
Redundancy Payments Service to make a claim.