Director Risks in Liquidation — Wrongful Trading, Preferences and Disqualification
Wrongful trading, preferences, overdrawn loan accounts, and other common director concerns explained simply — with the statutory references the liquidator will use.
Published April 2026 · Updated May 2026 · Jurisdiction: England & Wales
One of the first questions directors ask when their company faces insolvency is: “What does this mean for me personally?” This guide explains the most common risks that directors face, the circumstances in which personal liability can arise, and what you can do to protect yourself. The named statutory provisions below are the ones a liquidator can deploy on appointment.
The starting point: limited liability
As a director of a limited company, you benefit from the principle of limited liability. This means that, in normal circumstances, you are not personally responsible for the company's debts. The company is a separate legal entity, and its obligations are its own.
However, this protection is not absolute. There are a number of situations where the “corporate veil” can be pierced or where statute imposes personal liability on directors. Understanding these situations is important, particularly when the company is insolvent or approaching insolvency. The Supreme Court in BTI 2014 LLC v Sequana SA [2022] UKSC 25 confirmed that, once insolvent liquidation or administration becomes probable, a director's duty to consider the interests of creditors under section 172(3) of the Companies Act 2006 is engaged and intensifies as the prospect approaches inevitability.
IA86 s.214 — Wrongful trading
Under section 214 of the Insolvency Act 1986, a director can be held personally liable for wrongful trading if they allowed the company to continue trading at a time when they knew, or ought to have concluded, that there was no reasonable prospect of the company avoiding insolvent liquidation.
The relevant moment is when insolvent liquidation became inevitable — the “moment of truth” identified in Re Produce Marketing Consortium Ltd (No 2) [1989] BCLC 520. The standard the director is held to is partly objective (what a reasonably diligent director with the same skills ought to have known) and partly subjective (what this director actually knew). Taking professional advice at an early stage, and documenting the steps taken to cut overheads, cease taking new orders, or restructure, is the most effective way to demonstrate that you acted to minimise loss to creditors.
IA86 s.213 — Fraudulent trading
Fraudulent trading under section 213 of the Insolvency Act 1986 is more serious than wrongful trading. It applies where a company has been carried on with intent to defraud creditors or for any other fraudulent purpose. The court can require any person who was knowingly a party to the carrying on of the business in that manner to make such contributions to the company's assets as it thinks proper.
Unlike wrongful trading, fraudulent trading can also give rise to criminal liability under section 993 of the Companies Act 2006 (maximum 10 years' imprisonment). Successful civil claims are relatively uncommon because the burden of proof is high — the liquidator must demonstrate actual dishonesty — but where the conduct is clear the consequences are correspondingly severe.
IA86 s.239 — Preferences
A preference under section 239 of the Insolvency Act 1986 occurs where the company does something, or suffers something to be done, that puts a creditor (including a guarantor) in a better position than they would have been in had the company gone into insolvent liquidation, and the company was influenced by a desire to produce that result.
If a preference is given to a connected party (a director, a family member, a company controlled by the director), the “desire” to prefer is presumed, and the look-back period is two years. For unconnected creditors the look-back is six months. The court can order the transaction reversed under section 241.
Common examples include repaying a director's loan while leaving trade creditors unpaid, paying off a personally-guaranteed bank facility just before liquidation, paying a family member's company ahead of other creditors, or granting security to a connected lender for past consideration.
IA86 s.238 — Transactions at an undervalue
Under section 238 of the Insolvency Act 1986, a liquidator can challenge transactions entered into by the company in the two years prior to the onset of insolvency where the company received significantly less than the value of what it gave. The court can order the transaction reversed, or compensation paid, under section 241. Where the counterparty is a connected party, the company's insolvency at the time of the transaction is presumed.
Common examples include selling plant, vehicles or IP to a successor company controlled by the same director for nominal consideration, writing off a debt owed to the company by a connected party, or making gifts. There is a narrow defence where the transaction was entered into in good faith, for the purpose of carrying on the business, and in the reasonable belief that it would benefit the company.
IA86 s.423 — Transactions defrauding creditors
Section 423 of the Insolvency Act 1986 differs from section 238 in two important respects: there is no fixed look-back period, and any “victim” creditor (not just the liquidator) can apply. It captures transactions at undervalue entered into for the purpose of putting assets beyond the reach of a person who has or may have a claim against the company.
Particularly relevant where assets are transferred to a spouse's company, a trust, or a phoenix arrangement. The applicant must show the purpose; connection between the parties is not required.
Overdrawn director's loan account (DLA)
If you have an overdrawn director's loan account — meaning you owe money to the company — the liquidator will be required to pursue recovery of that debt. This is one of the most common issues directors face in liquidation. The amount owed is a debt due from you personally to the company, and the liquidator has a statutory duty to collect it on behalf of creditors. There is no discretion to write it off.
If you know your loan account is overdrawn, it is important to discuss this with your insolvency practitioner before the company enters liquidation. In some cases, arrangements can be made — a properly-declared bonus (with PAYE/RTI), a lawful dividend (subject to distributable reserves), a personal repayment from outside funds. A journal entry on its own, without a real movement of cash and without contemporaneous documentation, will rarely survive scrutiny.
CA06 ss.829-853 — Unlawful dividends
A dividend or other distribution must be made out of profits available for that purpose (section 830 Companies Act 2006). The test is applied by reference to the relevant accounts at the date of declaration — not the year-end. If a dividend is voted by reference to year-end accounts months later, and the company's reserves at the moment of decision did not in fact justify the distribution, the dividend is unlawful. Section 847 makes the recipient (where they knew or had reasonable grounds for believing it was unlawful) liable to repay it.
In Re Marini Ltd [2004] BCC 172 and the BHS Group judgments, directors have been held personally liable to repay unlawful distributions on a misfeasance basis. Backdating the voucher does not save the position — if anything, it adds a false-accounting risk.
Personal guarantees
Many directors sign personal guarantees in order to obtain finance, premises, or credit for the company. A personal guarantee is a separate obligation from the company's debt and survives the company's liquidation. If you have given personal guarantees, the guaranteed creditor can pursue you directly for the outstanding amount once the company defaults. This is not a consequence of the insolvency process itself, but it is a practical consequence many directors need to address. We discuss the practical options for managing personal guarantees in the dedicated personal guarantees guide.
IA86 s.212 — Misfeasance
Misfeasance under section 212 of the Insolvency Act 1986 is a summary procedure by which the liquidator can bring claims against any person who has been involved in the management of the company for breach of fiduciary or other duty. It is the workhorse of director liability, catching unlawful dividends, undocumented bonuses, undervalued asset transfers, and similar breaches of duty.
CDDA 1986 s.6 & s.7A — Director disqualification
The Company Directors Disqualification Act 1986 gives the court power to disqualify directors whose conduct makes them unfit to be concerned in the management of a company. The liquidator is required (under CDDA s.7A) to submit a confidential report on the conduct of each director who has served in the three years preceding insolvency to the Insolvency Service, which decides whether to pursue disqualification proceedings under CDDA s.6.
Conduct that may lead to disqualification includes allowing the company to trade while insolvent for an unreasonable period, failing to maintain proper accounting records (CA06 ss.386-389), failing to file statutory returns, and non-payment of Crown debts (VAT, PAYE, etc.). A disqualification order typically lasts between 2 and 15 years. Following disqualification, the Secretary of State can additionally seek a compensation order under CDDA s.15A.
Perspective: While the risks described above are real, the vast majority of directors who take timely advice and act in good faith do not face personal liability or disqualification. The key factors that protect directors are acting promptly once insolvency becomes apparent, taking professional advice, cooperating fully with the liquidator, and not preferring their own interests over those of creditors.
How to protect yourself
The single most important thing a director can do is take professional advice early. If you are concerned about your company's financial position, speaking with a licensed insolvency practitioner allows you to understand your obligations, make informed decisions, and demonstrate (if it ever becomes relevant) that you acted responsibly and sought appropriate guidance.
Contact Insolvency Direct for a free, confidential initial consultation. We will help you understand where you stand and what steps you should take to protect both the company's creditors and your own position.
Director risk FAQs
Section 214 of the Insolvency Act 1986 makes a director personally liable to contribute to the company's assets where they continued to trade after the point at which they knew, or ought to have concluded, that there was no reasonable prospect of avoiding insolvent liquidation. The "moment of truth" was identified by the court in Re Produce Marketing Consortium Ltd (No 2) [1989] BCLC 520.
The test has two components: an objective limb (what would a reasonably diligent director with the same skills have known?) and a subjective limb (what did this director actually know?). After the moment of truth, you must have taken every step a reasonably diligent director would take to minimise loss to creditors. A documented decision — to cut overheads, cease taking new orders, seek IP advice, file for administration — is the clearest defence. An undocumented continuation of trade as before is the riskiest position.
A preference under section 239 of the Insolvency Act 1986 is something the company does (typically a payment) that puts a creditor in a better position than they would have been in had the company gone straight into insolvent liquidation. The company must also have been "influenced by a desire" to produce that result.
The look-back period is six months for unconnected creditors and two years for connected creditors. Connected parties (defined in IA86 s.249) include directors, their families, and associated companies — broadly any party with a controlling relationship to a director or the company. Where the preferred party is connected, the "desire" is presumed, and the director has the evidential burden of rebutting that presumption.
Classic patterns: repaying a director's loan while leaving trade creditors unpaid; paying off a personally-guaranteed bank facility in the months before liquidation; granting security to a connected lender for past consideration.
A dividend or other distribution must be made out of profits available for that purpose (section 830 Companies Act 2006). The reserves test is applied at the date of the actual decision to declare the dividend — not the year-end. If reserves did not in fact justify the distribution at the moment it was voted, the dividend is unlawful.
Section 847 CA06 makes the recipient (where they knew or had reasonable grounds for believing it was unlawful) liable to repay the company. In an owner-managed company that knowledge test is usually met as a matter of course. The position is reinforced by Re Marini Ltd [2004] BCC 172 and the BHS Group judgments — directors carry the burden of demonstrating that proper interim accounts justified the distribution at the moment it was made.
Dating the voucher to the year-end without contemporaneous interim accounts is not a defence; it is, on its face, false accounting under Theft Act 1968 s.17.
An overdrawn DLA is a personal debt owed by you to the company. On liquidation the liquidator has a statutory duty to pursue recovery — there is no discretion to write it off. The company's claim against you forms part of the realisations available to creditors.
Before liquidation there are legitimate ways to address an overdrawn DLA: a genuine personal repayment from outside funds (evidenced by the bank statements on both sides); a properly-declared bonus with PAYE/RTI; a lawful dividend (subject to distributable reserves at the date of declaration). All of these need contemporaneous documentation.
A journal entry that clears the DLA without a real cash movement, without PAYE, and without contemporaneous board minutes will rarely survive scrutiny — and may itself be challenged as a transaction at undervalue (s.238) or misfeasance (s.212).
Phoenix activity — transferring trade, customers, plant or goodwill to a successor company controlled by the same director — is not unlawful in itself. Many businesses survive a liquidation in just this way, and where the transfer is properly priced (with independent valuation evidence and a marketing process) it can be entirely legitimate.
The risks: a transfer at an undervalue gives rise to a section 238 claim by the liquidator (two-year look-back, the company's insolvency presumed where the counterparty is connected); a transfer to put assets beyond creditors' reach engages section 423 (no look-back limit, any "victim" creditor can apply); and IA86 s.216 restricts the use of the same or similar name to the failed company by its directors for five years following insolvency (with limited exceptions).
The safest path is to discuss the planned transfer with an IP before it happens. A pre-pack sale supervised by an IP, with independent valuation, is materially different from an informal asset transfer in the days before liquidation.
In most CVLs, no. Disqualification proceedings under CDDA 1986 s.6 are taken by the Insolvency Service only in cases where there is evidence of conduct that makes the director unfit to be concerned in company management. The liquidator's confidential report under CDDA s.7A — submitted on every director who served in the three years preceding insolvency — is the gateway to those proceedings.
Conduct that may lead to disqualification includes allowing the company to trade while insolvent for an unreasonable period, failing to maintain proper accounting records, failing to file statutory returns, non-payment of Crown debts (VAT, PAYE), unlawful dividends, and clear preferences. A disqualification order typically lasts 2-15 years. Following disqualification the Secretary of State may seek a compensation order under CDDA s.15A.
For ordinary commercial failures handled through a properly-conducted CVL, with cooperation with the liquidator and no clear misconduct, directors typically continue trading through new ventures without difficulty.
Insolvency Direct — Licensed Insolvency Practitioners
This guide is for general information only and does not constitute legal or financial advice. You should seek professional advice tailored to your specific circumstances.