People outside insolvency often mistake phoenixes, wrongful trading, failure to pay debts and even insolvency for fraud. As we know, this isn’t the case.
In his latest Coffee Break Briefing webinar, Frettens’ own Insolvency Guru Malcolm Niekirk outlined what fraud is and the risks of accusing someone of fraud.
This is the summary of that briefing.
If you'd like to watch the webinar back, you can do so below, if not, read on for our summary...
Quick links
- Why is fraud today’s topic?
- What is fraud in insolvency?
- Why you should be careful accusing a director of fraud
- When should you accuse someone of fraud?
Why is fraud the topic of today’s briefing?
I will start with a short, familiar story. I was involved in a small voluntary liquidation with a £50,000 bounce back loan. The money was in the company’s bank account for less than 24 hours. It was not used to fund the company’s business, as far as the liquidator could see.
It seemed to have been used only to improve the standard of living of the directors.
There was probably misfeasance. A breach of the statutory duty to act in the best interest of the company and its creditors. Probably also failure to comply with the terms upon which the loan was granted in the first place.
There may well have been an overdrawn director’s loan account as a result. The directors’ accounting for the payment to them was sketchy.
Was it fraud?
Perhaps it was fraud if they had borrowed the money without intending to use it for the company’s benefit, or repay it.
In this case, the IP accused the directors of fraud, in unambiguous terms. As it turned out, this wasn’t the best tactic. The immediate response from the solicitors acting for the directors was to demand evidence. For them, it was a helpful diversion.
So, what is fraud in insolvency?
Fraud has two components:
- an aspect of dishonesty, deceit, misinformation; and
- financial gain for the fraudster (or loss for the victim).
The deceit can be either:-
- lies about the intentions of the business (bad faith promises); or
- lies about facts (misinformation).
The fraud may be a deliberate plan, or it may be a poorly judged reaction to a problem, which then escalates over time (e.g. some Ponzi schemes).
In many cases there are overlapping claims:
- Fraud, is a crime of dishonesty.
- Misfeasance is (usually) not a crime.
- If you can prove fraud, you can probably prove misfeasance as well
- An overdrawn director’s loan account is not a crime.
- Or, if it is, it’s a technical one.
- It may be even easier to prove then misfeasance.
Why should you be careful when accusing others of fraud?
If you accuse someone of fraud, these issues could arise:
- Defamation (libel and slander)
- Accusing someone of a crime is usually defamatory
- GDPR
- Information about alleged crimes is in the most sensitive category of personal data. It’s very confidential.
- It is likely to create antagonism
- Can you prove it? What’s your evidence? Without good evidence, you may have to drop the accusation.
- Will your lawyers want to carry the allegation?
Defamation (libel and slander)
When defamatory, the spoken word is slander. The written word is libel. It is easier for the aggrieved person to bring a case if they can claim libel.
The law of libel is to protect peoples’ ‘reputation’ (even if they are disreputable).
Suppose you publish a damaging allegation. All the offended person needs to prove is that you damaged their reputation. To defend yourself, you may have to prove that what you said is true. Otherwise you have libeled them.
You can ‘publish’ a libel by sending it to the company’s creditors, for example. Libel is a useful legal tool for well-lawyered reprobates.
GDPR
Under GDPR, allegations about suspected crimes are in the highest category of protected personal data. It’s information that should be treated as very confidential.
You can breach this obligation of confidence only:
- In accordance with a legal right to do so; and
- Where there is a legitimate reason to do so; and
- In accordance with your privacy policy;
- And the information on your file has to be accurate
- (You can report allegations, when you need to, but describe them accurately)
Antagonism
Alleging fraud or dishonesty is an attack on reputation and morality, and it is hard not to take it personally!
When emotions run high, the issues will be harder-defended and harder to settle.
Can you prove it?
In this context, I’m not talking about prosecuting a director for a crime. This is about the information that you’re giving in your D report or perhaps you’re building a case to recover money from a director.
This is a civil matter, not a criminal case, so you don’t have to prove your case beyond reasonable doubt. You only have to prove that it is more likely than not that the director was dishonest.
But, the director’s dishonesty is an additional element that you need to prove. That means proving more than just carelessness, (which is all you would have to do for a claim of misfeasance). The court will want credible evidence of dishonesty.
What about your lawyers?
Professionally, solicitors aren’t allowed to make a casual allegation of dishonesty. There needs to be a basic minimum of evidence before they can claim someone has been dishonest.
If you don’t have that minimum, your solicitors may have to row back from your allegations. This will be difficult if you’ve already made allegations.
And, if you instruct a lawyer and you find that they’re getting enthusiastic about alleging fraud or dishonesty, ask them why they think it is necessary to bring a claim for fraud rather than misfeasance.
When should you accuse someone of fraud?
Sometimes it is right to allege fraud – here are some examples.
The statute of limitations
The normal time limit for bringing a legal claim is six years, but there are lots of exceptions. Some time limits are shorter, and some are longer.
Some claims for theft, (and fraud is a type of theft), do not become time-barred with the usual limit.
This means that allegations of fraud can sometimes get you past time limits.
Transactions defrauding creditors
To bring a successful s423 claim (a claim under s423 Insolvency Act 1986), you need to show:
- A transaction at an undervalue; and that
- The transaction was intended to:
- Put assets beyond the reach of creditors; or
- Prejudice creditors
There is no time limit for bringing an s423 claim, unlike a transaction at an undervalue claim where, commonly:
- The transaction must have been in the last two years before liquidation; and
- The liquidator has six years to bring the claim
Legal professional privilege
Normally, if the directors (or a bankrupt) have been taking personal advice from a solicitor before the start of an insolvency, that advice is likely to be confidential between them and their lawyer. You’re not entitled to see it.
As an office holder, you do have powerful statutory rights to compel people to give you information. When you enforce those rights you can:
- Summon them to court;
- Order them to bring their records with them;
- Have them arrested if they don’t comply.
Normally those powers can’t open privileged files. However, they can if the issue is fraud.
Upcoming events
Thanks for reading this summary…
My next Coffee Break Briefing is coming up on 13th March 2023, when I’ll be looking at GDPR in business sales and subject access requests (SARs). The link to book on will be sent out to the usual email list in due course.
If you’re not already, you can sign up to our email list here.
And Frettens’ Second Annual Insolvency Conference is set to be held on 12th May 2023. Again, more details to follow.
Specialist Insolvency Solicitors
If you have any questions after reading this article, please don’t hesitate to get in touch with our bright and experienced team.
Call us on 01202 499255, or fill out the form at the top of this page, for a free initial chat.
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