With the rise of the gig economy and portfolio careers many people are now taking advantage of the considerable tax and security benefits of running all of their income through a limited company. But while incorporation brings benefits, it also brings obligations that every company director needs to be aware of. Here we spell out the key fiduciary duties and every company director is legally bound to adhere to.
1 – The company’s constitution.
The first thing a company director needs to know is what powers to act they are given by the company’s constitution. Although you are not bound to use them and they can be modified during incorporation and also subsequently, by default all companies registered at Companies House start with the Companies House model articles of association. They can be viewed here.
As a director it is important to be familiar with the company’s articles of association as they are the most important part of the company’s constitution and first duty of a director is to act within their powers under the company’s constitution. If a director exceeds their powers it is possible that decisions they have made could be overturned and the director could be personally liable to the company for any resulting loss.
2 – You must promote the success of the company.
When acting for the company a director must always do what they believe to be the best thing to promote the success of the company for the benefit its shareholders. This means that any board decisions can only be justified by the best interests of the company, not by what is best for any individuals or for the board.
This obligation is designed to protect the interests of the owners of companies where they are not the ones making the decisions. In practice if you own your own company it is likely that your own interests will always be aligned to the interests of the company. However a director is also required to have regard to:
- The long term consequences of their decisions
- The interests of the company’s employees
- The company’s need to foster relationships with key stakeholders such as suppliers and customers
- The impact on the environment and the community of the company’s activities
- The company’s reputation
- Fairness between company members
3 – You must exercise independent judgement.
Directors must formulate their own informed view of the company’s operations and best interests and make decisions based on that view. It is incumbent on all directors to keep themselves apprised of what is going on within the company, how the company is performing and its financial position. If they fail to do this they will be unable to make independent and informed decisions in the best interests of the company.
4 – You must exercise reasonable care, skill and diligence.
A company director is required to exercise both the skill care and diligence that could be reasonably expected of a person in their position and the level of skill, care and diligence that they actually possess.
It is not an excuse to say that you acted to the best of your abilities if your abilities were less than what could be reasonably expected. At the same time you cannot say you did what could reasonably have been expected of you, if you actually had the knowledge and experience to know better.
Part of exercising reasonable care, skill and diligence is having an understanding of the financial situation of the company, and in particular insuring the company does not trade while insolvent. Insolvent trading is where a company incurs debts it is unable to pay.
For most contractors with personal services companies it is unusual to take on debts, so this obligation is easy to overlook. However it is important to understand that taking money out of the company, leaving it unable to pay its debts, is as much a breach as incurring debts that cannot be repaid. Furthermore it must be remembered that corporation’s tax is a legal debt even if you haven’t lodged your tax return yet. So if a personal services director takes dividends that leave the company unable to pay its corporations tax they can be in breach of this duty.
Before taking any money out of a company as dividends it is vital for the director to be aware of the company’s tax position. Further to this the company director must understand the impact of the dividend on their own tax position so that they are able to ensure that they are able to meet their own personal tax liabilities. Personal bankruptcy disqualifies a person from holding the position of company director. This is why it is vital that LCCS customers submit their income and expenses and review their Live Tax Report prior to withdrawing money from the company. This will ensure you are informed of and prepared for your company and personal tax liabilities at all times.
5 – You must avoid conflicts of interest.
A conflict of interest is a situation where you may be able to use your position as a director of the company to make a personal gain, at the expense of the company. For example if you have an interest in a customer, supplier or competitor of the company you may be able to use your position to influence the company to trade with you on favourable terms or use the knowledge you have gained as a director to gain an advantage for the competitor.
You must avoid any situation where you have, or could have a conflict of interest with the company, regardless of whether or not you take advantage of the situation. Sometimes it is not possible to avoid conflicts, or potential conflicts. However this duty is not infringed if you receive prior authorisation.
Prior authorisation can be granted by the articles of association, by a specific shareholder resolution, or by the board of directors. Where a director is conflicted on a particular issue they should declare the conflict and excuse themselves from any discussion or vote on the issue.
6 – A director must not accept benefits from third parties.
You must not accept any benefits or gifts from third parties that could influence your actions or decisions as a director. This duty is not considered to be infringed if it could not reasonably be expected that the gift would give raise to a conflict.
7 – A director must declare any interest they have in either current or potential transactions or arrangements of the company.
Closely related to avoiding conflicts of interest, a director must declare any time where they have an interest in the activities of the company, outside of their capacity as director. In order for this duty to be breached the director had to be aware of the conflict and the conflict had to have the reasonable potential to affect the director’s actions or decisions as director.
As sole director and shareholder why do I need to worry about these duties? I will not take action against myself.
A director’s duties are owed to the company they are a director of and no other party. And while it is true that the duties are there to protect the interests of the company that does not mean you don’t need to worry about them if you are the sole director and shareholder of a personal services company.
As well as the company, a liquidator can also begin enforcement action against a director in an insolvency situation. And if a company fails to pay its taxes HMRC can appoint a liquidator and wind up a company. In this situation the director can be personally liable for the unpaid debts of the company. Further to this certain breaches can result in a criminal fine.