Directors' liability in construction: Directors of contractor privately liable for failure to obtain construction warranty

The main rule in our legal system is that a director of a legal entity is not liable in private for the debts of that legal entity. This is called "the shield of legal personality." This system is useful and aims to promote entrepreneurship. However, circumstances are conceivable in which the aforementioned shield is (rightly) breached. This results in a director being liable in private (in addition to the company) for the company's non-performance and resulting damages. I wrote an article about this earlier. 

There are also situations in the construction industry where a director of a construction chain company may be privately liable for the damages suffered by another party - the creditor. As a creditor, it pays to investigate whether this is the case. After all, it offers an additional opportunity to recover damages even if - or especially if - the contracting party (the company) goes bankrupt. This article is about such a situation - which recently played out in the Limburg District Court.

Limburg court ruling

A client enters into an agreement for the construction of a family home with a contractor. The parties agree that the contractor will join the Bouwgarant guarantee scheme so that the client is insured in the event of the contractor's bankruptcy.

The construction process is delayed because the contractor fails to pay its subcontractors. In response, the client dissolves the contract and demands repayment of the sums it has paid and compensation for the additional costs incurred by engaging a new contractor.

Shortly thereafter, the contractor goes bankrupt. It turns out that the contractor - contrary to agreements - did not take out a construction warranty.

The principal thereupon holds the contractor's directors privately liable for the damages he has suffered now that because of the bankruptcy the contractor himself is not paying.

The court granted the claim, in part, because the directors knowingly agreed to build under Bouwgarant, even though they knew that the contractor would not be able to fulfill these agreements because the contractor (due to past non-payment) was no longer a member of Bouwgarant.

Special circumstances in this case were that the directors used several companies with similar names. They allowed one company to be filled with debts that were not paid in full or at all, while income flowed through another company. In short, there was "juggling" of companies.

The directors were also found to have had several companies that kept collecting money, not fulfilling agreements made and then going bankrupt.

In my opinion, however, these special circumstances are not decisive in order to arrive at the verdict of directors' liability. What is decisive is in fact - according to established case law of the Supreme Court - that a director can be blamed personally seriously with respect to the unlawful conduct of the company and the damage suffered by a third party as a result of that specific conduct.

Thus, the mere promise that a guarantee would be issued, when the director knew in advance that this guarantee could not be issued, an sich constitutes such personal serious misconduct and is thus sufficient for directors' liability.

In addition, the special circumstances mentioned above could, in my view, in themselves also lead to liability of the director of the contractor, even if there were thus no promised but not concluded construction guarantee.

In addition to the situations mentioned above, many other situations are conceivable in which a director of a party in the construction chain may be liable in private. Consider, for example, the contractor's removal of personnel from a construction project without good reason. My colleague Erik Jansen recently wrote an article about this form of compliance frustration.

Conclusion

It again follows from the Limburg court's ruling that directors' liability is also an important tool in construction to recover damages.

Thus, there are more conceivable circumstances than the failure to secure a promised construction bond that lead to liability of a director in private.

Consider cases of foreseeable default, recourse frustration and other types of performance frustration.

For creditors, in short, it is useful anyway to investigate whether there may be opportunities to hold the director or other third parties liable in addition to the legal entity. Indeed, this can sometimes pay off.