Directors' liability in bankruptcy: recent Supreme Court ruling gives board more options to escape private liability

"As a director of a BV or NV, I am not liable in private for debts of the company, am I?!"

I am often asked this question and the answer in principle is yes: indeed, as a director, you are not privately liable for debts of the company. This is called "the shield of legal personality" and promotes entrepreneurship.

Nevertheless, there are quite a few exceptions to the aforementioned main rule under which a director may nevertheless be liable in private to, for example, a receiver, the tax authorities or a creditor of the company.

It is wise to be aware of these risks and circumstances. Then you can act accordingly. After all, prevention is better than cure.

However, if you do get sued unexpectedly, there are a number of defenses you can raise.

In this article, I will discuss liability to a trustee in bankruptcy, exactly what you need to watch out for to avoid liability, and what all you can argue if you do get sued unexpectedly.

I will also discuss here a recent Supreme Court ruling. This ruling has increased the ability of directors to defend themselves against a trustee suing them privately in the bankruptcy of the company of which they are directors.

Director's liability to a receiver

In a previous article, I wrote about the three main forms of directors' liability.

One of these is liability to the bankruptcy trustee in the event of bankruptcy with the ultimate sanction being liability for the estate deficit that is, roughly speaking, all debts that cannot be paid from the proceeds of the bankruptcy.

Specifically, if a company is indebted for €1,000,000.00 and only €100,000.00 in proceeds is generated from the bankruptcy, you, as a director, are liable in private for the remaining €900,000.00.

As a director, when are you now privately liable in the bankruptcy of the company of which you are a director?

Manifestly improper administration in bankruptcy: article 2:248 BW

Article 2:248 BW stipulates that in the case of a company's bankruptcy, each director is jointly and severally liable to the estate for the estate deficit - as stated roughly, all debts that cannot be paid from the proceeds of the bankruptcy - if:

1. The board manifestly performed its duties improperly;
2. It is likely that this apparent mismanagement was a major cause of the bankruptcy.

Article 2:248 BW applies only in bankruptcy. Only a receiver can invoke this article. If the company does not go bankrupt, you are not at risk under this article.

Now when is improper management?

The Supreme Court has ruled several times that manifestly improper management exists if "no reasonably thinking director under the same circumstances would have acted as such."

So this must be irresponsibility, recklessness or recklessness and not simply a misjudgment or a decision gone wrong.

After the manifestly improper management has been established, it remains to be examined whether it is plausible that the manifestly improper management was a major cause of the bankruptcy. If that indeed becomes plausible, then the management is liable to the trustee for the bankruptcy deficit.

Note that Article 2:248 of the Civil Code refers to collective liability, that is, of the entire board.

Evidence suspicions

What is important for practice is that the manifestly improper management is irrefutably established and further, that this manifestly improper management is presumed to be a major cause of the bankruptcy if:

1. The duty of administration of Article 2:10 BW has been violated, or;
2. The publication requirement of Article 2:394 BW has been violated.

As a director, it is therefore important to keep the company's records in order and always publish your financial statements in a timely manner - that is, within the maximum period of 12 months after the fiscal year.

Dispel evidence suspicions

If the records are not in order or the financial statements are not filed on time, as mentioned above, manifestly improper management is irrefutably established and(rebuttably) presumed to be a major cause of the bankruptcy.

The presumption of Article 2:248(2) of the Civil Code that the director's manifestly improper management was a major cause of the bankruptcy can be rebutted by the director being sued.

In that case, the director must make it plausible that facts and circumstances other than his improper performance of his duties were a major cause of the bankruptcy. In other words, he must then state and prove that an external cause, i.e. an external cause, is an important or the only oor cause of the bankruptcy.

For example, you can think of the bankruptcy of a major debtor, a crisis such as the corona crisis for certain sectors, or associated measures (such as closure of pubs, festivals, travel restrictions, etc.).

If the director claims an external cause, the trustee in bankruptcy accuses the director of failing to prevent the occurrence of that cause, the director will (also) have to state facts and circumstances and, if necessary, make it plausible that this failure does not constitute improper performance of duties.

For example, if the director argues that a fire in the company's warehouse where stock was stored is a major cause of the bankruptcy, an important factor is whether the stock and premises were properly insured and insurance premiums were paid on time.

If the director succeeds, the trustee himself will still have to make it plausible that the manifestly improper performance of duties was a major cause of the bankruptcy.

Recent Supreme Court ruling: more opportunities for directors to defend themselves against a receiver

As noted above, a director can negate the evidentiary presumptions by citing an external, external cause as a significant or sole cause of the bankruptcy.

Recently, the Supreme Court issued a ruling indicating that there is a second way to negate evidentiary presumptions, in addition to citing external cause.

This has given directors more opportunities to defend themselves against a liability claim by a trustee in bankruptcy.

What exactly was decided by the Supreme Court?

The proceedings before the Supreme Court involved a bankruptcy in which the court had previously found that the board had failed to comply with the recordkeeping requirement.

With this, manifestly improper management of the entire board was irrefutably established and thus the board had to make a plausible case that there was another, external cause of the bankruptcy to escape private liability.

A number of directors attempt to do this by pointing to conduct of a co-director (resigned just before the bankruptcy). They argue that the bankruptcy was caused by this co-director, who withdrew the entire working capital from the subsequently bankrupt company by transferring amounts to himself. They also argue that this same co-director sent an e-mail to customers that the other directors were going to leave the company, which would have led to a great loss of confidence and thus significantly caused the bankruptcy.

The court of appeal ruled that the actions of one of the (other) directors cannot be invoked as an "other fact or circumstance" when the duty of administration is breached. This judgment is not entirely incomprehensible in light of an earlier Supreme Court ruling to the effect that once it is established that there has been improper management, this means improper management across the board, i.e. by the entire board.

The Supreme Court, however, overturns the judgment of the trial court in its recent ruling of July 9. It noted that it follows from the legislative history of Section 2:248 of the Civil Code that the purpose of this section is not to hold the management board personally liable for the entire deficit merely because of improper management, but that this manifestly improper management must actually have resulted in the bankruptcy.

The evidentiary presumptions of Article 2:248(2) of the Dutch Civil Code can therefore be rebutted not only by making an external, external cause plausible, but also by pointing to the acts or omissions of a co-director (and under circumstances even of the director at fault himself), provided that these acts or omissions are not to be regarded as improper performance of duties.

The Supreme Court thereby makes it clear that a distinction must be made between, on the one hand, the fact that a violation of the duty to keep records establishes that (across the board) there has been improper administration and, on the other hand, the possibility for the administration to (nevertheless) cite other circumstances that were a major cause of the bankruptcy.

If a director can cite conduct by a co-director or himself that, while careless, does not meet the high threshold of improper management, those circumstances should be included if they were a major cause of the bankruptcy. This may then have the effect that the manifestly improper management resulting from a breach of the duty to keep records is not the major or exclusive cause of the bankruptcy, thus preventing the director from being liable in private.

A rather technical ruling, but in a nutshell it boils down to this: if a company does not have its records in order, but it is established that the bankruptcy was largely caused by some very careless decisions made by another director or by the director himself, but it cannot be said of those decisions that no reasonable thinking director would have acted in this way under the same circumstances, the board escapes private liability.

In short, in addition to alleging an external cause of the bankruptcy, private liability can be avoided in a second way described above.

In addition, there always remain the possibilities for an individual director to have his liability mitigated or excused.

For the director to be excused, he must state and prove that the improper performance of duties by the (collective) management is not attributable to him and he has not been negligent in taking measures to avert the consequences of the improper performance of duties.

There are grounds for mitigation, for example, if an individual director has only been a director for a short time.

Dispute with a receiver? Need a quick-scan of director liability? Get in touch with us.

As mentioned, there are many forms of directors' liability. This article describes directors' liability in bankruptcy.

You can further think of liability to the tax authorities for failing to report (on time) an inability to pay (article 36 Invorderingswet 1990), liability for misleading financial statements (article 2:249 BW), liability for the mandatory registration of a company in the Trade Register (article 2:180 BW), liability to the company itself (article 2:9 BW) or to an individual creditor (article 6:162 BW).

In short, the shield of legal personality is not always as strong as it first appears.

This creates risks for a director and opportunities for a creditor who feels aggrieved and wishes to hold the director liable.

Given the foregoing, it is useful for directors to have a quick-scan performed periodically to see if they are at risk. This applies in both good times and bad.

Based on that quick-scan, concrete measures can then be taken to minimize the risk of directors' liability.

The other side of the coin is that it pays for creditors to investigate whether there may be possibilities to hold the director liable in addition to the legal entity. In this way, a seemingly irrecoverable claim can still be collected.