Post by atumdjeheuty on Jan 6, 2014 5:41:20 GMT 4
Corporate directors and the limits of responsibility
Ashley Fife
De facto directors are persons who have not been formally appointed as directors of a company but have ‘assumed the status and functions of directors’.1
Persons who are determined to be de facto directors may find themselves subject to the same duties to the company as formally appointed directors, exposed to claims for breach of director duties and potentially liable for a company’s unsatisfied tax liabilities. A company in one jurisdiction may also find itself deemed to be tax resident in another jurisdiction from which the de facto director exerts control resulting in a significant unexpected tax liability.
The two questions this article explores are:
In what circumstances can or should individuals who are directors of one company (such as a corporate director) be determined to be de facto directors of a second company?
When considering the above question, to what extent is focusing on an individual’s conduct, rather than his or her legal capacity, contrary to the principle that companies are separate legal entities from their directors and shareholders?2
Until recently, case law regarding de facto directors in most common-law jurisdictions developed in circumstances where corporate directors of companies were not prevalent; and cases involved facts where there had been defects in the appointments or resignations of individual directors or where individuals continued acting as directors following their resignation or removal.3 Consequently, cases did not consider whether an individual’s conduct could be attributed to that individual’s legal capacity as director of a corporate director and, if it did, whether it then followed that the individual did not owe duties to the company.
An important decision of a company is one which would only be expected to be made by that particular company’s directors. The objective of ensuring that individuals who make companies’ important decisions are identifiable and accountable has deterred jurisdictions from permitting the appointment of corporate directors. Some common-law offshore financial centres (OFCs)4 may consider that this objective can be satisfied by the licensing and supervision of administration companies or corporate directors. However, such licensing does not clarify the circumstances in which directors of corporate directors may be de facto directors.
In Holland v HMRC (Holland’s case),5 a majority of three (the majority) to two (the minority) of the UK’s Supreme Court held that Mr Holland was not a de facto director of a number of companies with the consequence that he could not be liable for the companies’ unpaid tax liability. This was despite that he had at all times been a director of the companies’ corporate director and had made all important decisions for the companies including payment of unlawful dividends. The Court’s divisiveness in Holland’s case and the nature and complexity of the legal and policy issues suggest that courts (in the UK and elsewhere) may in future reach different conclusions from the majority.
This article also considers issues that lawmakers consider when deciding whether to permit appointment of corporate directors; and approaches taken in trust and tort cases dealing with issues analogous to those in Holland’s case.
Policy considerations
Many jurisdictions, such as Australia, Canada, Singapore, New Zealand and Delaware, do not permit the appointment of corporate directors.6 Hong Kong and the UK permit appointment of corporate directors as directors of private companies as long as there is also at least one individual director.7 However, this creates a situation where, based on Holland’s case, the individual director owes the company fiduciary duties but the directors of the corporate director do not. This is far from ideal unless there is a coherent policy rationale for adopting such an approach.
There may be concerns that permitting appointment of corporate directors (particularly as sole directors) may adversely impact the reputation of the jurisdiction that permit them because the quality of companies’ corporate governance8 may suffer and because of the difficulty identifying the individuals who control the corporate director and detecting fraud;9 the difficulty enforcing obligations against corporate directors because fines are ultimately met by corporate directors’ shareholders and the threat of imprisonment of corporate directors may be ineffectual;10 and the possibility that corporate directors may maintain insufficient assets to satisfy creditors’ claims.
In certain circumstances, many OFCs, including Bermuda, Jersey, Guernsey, British Virgin Islands and Cayman Islands permit the appointment of corporate directors without a requirement to also appoint individual directors.11 Jersey has expressly permitted appointment of corporate directors on conditions which include that each corporate director only has individual directors and is licensed and supervised by the regulator (the ‘conditions’).12
Not all jurisdictions expressly require corporate directors to be licensed, although there may be a general move by OFCs in that direction, particularly in those jurisdictions which require administration companies to be licensed. For example, Bermuda’s Corporate Service Provider Business Act 2012 (the Act) requires persons other than individuals who are for profit ‘acting or fulfilling the function of or arranging for another person to act or fulfil the function of director’13 to obtain the relevant license. However, the Act does not appear to require a corporate director to obtain a license where it is not remunerated.14
The primary attraction for permitting appointment of corporate directors is the increased flexibility and efficiency for both the administration companies and regulators because use of corporate directors facilitates: the speed that companies can be incorporated; the removal of the need to effect frequent appointments and resignations of individual directors; and a larger number of individuals being available to implement transactions for administration companies’ client companies.15
Individuals who accept the position of a director of a corporate director may be expected to familiarise themselves with the corporate director’s activities, including the activities of the companies of which the corporate director is a director. If the law were that individual directors of corporate directors’ were automatically deemed de facto directors, those individuals would owe the same duties to companies as are owed by individuals who are formally appointed as directors of companies and have the certainty that they owe those duties.
In OFCs, such as Jersey, which decide to permit appointment of corporate directors subject to conditions, the regulators may require the administration companies to hold information which confirms the identities of the beneficial owners of the client companies which they administer and corporate directors (and their directors) would essentially be supervised as part of the regulator’s overall regulation of administration companies. The misuse of corporate directors may be minimised in regulated jurisdictions due to the supervision of administration companies to ensure they comply with the regulator’s codes of practice.
Employees of administration companies who act as directors of corporate directors may be considerably more exposed to personal claims brought against them if they were automatically deemed to be de facto directors of companies. OFCs may consider this undesirable16 because such employees may consider that it is safer not to participate in complex decisions of client companies for fear of being a de facto director, and administration companies may ultimately experience increased staffing costs in order to attract suitably qualified and experienced individuals to act as directors of corporate directors.
Claimants may take comfort as corporate directors in regulated jurisdictions may be more likely to have sufficient assets to meet claims where there are requirements for administration companies to maintain specified minimum levels of capital and insurance.
When is a person a de facto director?
It is difficult to formulate a single decisive test to determine when a corporate entity or an individual (each, a ‘person’) may be a de facto director due to the numerous possible factual variations.17 The following principles have emerged in the UK regarding the determination whether a person is a de facto director:
A person will be a de facto director if the person was ‘part of the corporate governance of the a company’18 or, as expressed more recently in Re Mumtaz Properties Ltd, if the person was ‘one of the nerve centres from which the activities of the company radiated.’19
Consideration must be given to all relevant factors including the nature and activities of the company, and whether the person made important decisions for the company 20
alone or on an equal footing with others.21
A person who used the title of ‘director’ or was otherwise held out by the company as being a director of the company is not conclusive because ‘in considering whether a person “assumes to act as a director” what is important is not what he calls himself but what he did.’ 22
A person may be a de facto director for the purpose of certain decisions of the company and not others. 23
A person is entitled to the benefit of the doubt if it is unclear in what capacity the person’s conduct relates.24
Holland’s case did not examine what constitutes an important decision but acknowledged the difficulty in determining the functions which are the directors’ sole responsibility.25 Other cases indicate that it depends on whether the particular decision could materially impact upon the company’s financial standing, or a substantial part of the company’s business.26 The crucial difference between the majority and the minority were their approaches regarding whether Mr Holland’s conduct could be attributed entirely to his legal capacity as director of the corporate director.
Legal capacity
Most of the judges in Holland’s case adopted Millet J’s approach in Re Hydrodam Corby Ltd27 (Hydrodam’s case) insofar that they considered something more than a director of a corporate director’s active participation in the company’s decision-making process would be required for that individual to be a de facto director of a company28 (the something-more requirement). The question then is: ‘What conduct would satisfy the something-more requirement’?
In Holland’s case, HMRC did not assert (nor did the facts support) that the corporate director was a sham29 or that Mr Holland had been dishonest, shown substantial disregard of the formalities required by the companies’ governing documents, or held himself out as being the companies’ director.
The minority concluded that:
whether individuals are de facto directors primarily involves consideration of what individuals do by their own initiative;30
a determination that an individual director of a corporate director is a de facto director ‘does not involve the piercing of the corporate veil’;31
Mr Holland satisfied the something-more requirement and was a de facto director because he exercised: (i) complete control over the companies’ decisions; and (ii) independent initiative to deliberately cause the payment of the unlawful dividends;32 and
there is an ‘important difference between a multiplicity of human directors participating in the collective governance of a single corporate director… and a single individual director who is the guiding mind of a single corporate director.’33
In contrast, the majority determined that:
the Court must first consider the legal capacity in which the individual was acting;34
adopting Millet J’s approach in Hydrodam’s case, ‘so long as the relevant acts done by the individual entirely within the ambit of the discharge of his duties and responsibilities as a director of the corporate director, it is in that capacity that his acts must be attributed;’
all of Mr Holland’s conduct, including paying the unlawful dividends, could be attributed to his legal capacity as director of the corporate director; and
for courts to impose fiduciary duties on directors of corporate directors to companies was a dramatic extension of the law and the legislature should amend the law if that is what it intended.35
The majority did not elaborate regarding what conduct would satisfy the something-more requirement. It is difficult to identify many circumstances where directors of corporate directors would be de facto directors based on the majority’s reasoning. However, the minority considered that Hydrodam’s case was considerably different to those of Holland’s case primarily because the parent company exerting influence on the company had numerous directors. Further, there was no evidence in that case of any positive action that the particular directors of the parent company did of their own initiative regarding Hydrodam’s important decisions.36
On the minority’s analysis, it is difficult to identify circumstances where a sole director of a corporate director would not be a de facto director. The majority considered it would be an unsatisfactory outcome if all sole directors of corporate directors were automatically de facto directors.37 However, it is logical that a sole director of a corporate director should be a de facto director in most circumstances because that individual would be expected to make the company’s important decisions.
Legislative intent
General statutory definitions of ‘director’ vary between jurisdictions. However, in many common-law jurisdictions, the relevant statutory definition includes language substantially to the effect that a ‘director’ includes ‘any person occupying the position of director by whatever name called.’38
The immediate focus at the time this definition was introduced may have been to include within the definition those persons who perform directors’ functions but who, in companies’ governing documents, are given titles other than ‘director’ (for example, ‘president’ or ‘governor’).
However, Re Lo-Line Electric Motors Ltd,39 held that:
the general definition of ‘director’ was not exhaustive and that its meaning had to be derived from the relevant statute as a whole;40
whether a reference to ‘director’ in a statutory provision included de facto directors was a matter for construction of the particular section; and
it was apparent from the directors disqualification provision being considered that ‘the plain intention of parliament…was to have regard to the conduct of a person acting as a director, whether validly appointed, invalidly appointed, or just assuming to act as a director without any appointment at all.’
Statutory director liability provisions essentially lift the corporate veil in specific circumstances to focus on the conduct of persons who ultimately determine companies’ decisions. Individuals are the ultimate source of companies’ conduct. The intention of directors liability provisions is to prevent directors’ abuse of companies’ limited liability status41 by:
placing limits on the extent that individual directors can avoid personal liability for specific irresponsible decisions;42
enabling companies (through their liquidators) and creditors of companies to recover monies from those individuals for companies’ losses resulting from those individuals’ specific irresponsible conduct;43 and
disqualifying individuals responsible from gross mismanagement of companies from acting as directors thereby protecting the public.44
Disqualifying particular corporate entities from acting as corporate directors does not protect the public from the individuals who ultimately cause companies to be mismanaged. The individuals can simply form another corporate director and, through that vehicle, continue to manage companies.
It may contradict legislative intention if director liability provisions could be rendered ineffectual by arrangements, such as use of corporate directors, which effectively insert another corporate veil. Rather, it may be more logical and consistent with the nature of director liability provisions to conclude that the legislature would have contemplated that individuals may be de facto directors even where their conduct was performed in the legal capacity as director of a corporate director or another corporate entity.
Further legislative amendment is required in most common-law jurisdictions to add clarity surrounding how the issue of legal capacity should be approached by the courts regarding identification of de facto directors in circumstances where companies use corporate directors. The approach of the legislatures of different jurisdictions may vary because many do not permit appointment of corporate directors and the nature of regulation of corporate directors varies between those that do.
Inactive directors of corporate directors
In Secretary of State for Trade and Industry v Hall (Nutall’s case),45 Mr Nutall was the sole owner and director of a corporate director which acted as director of his clients’ company. Mr Nuttall had specifically agreed with his clients that neither the corporate director nor Mr Nuttall would be involved in the company’s management. However, Mr Nuttall: was the only individual ultimately responsible for the corporate director’s inactivity and its failure to perform its duties; and made the important decision to cause the corporate director to remain inactive.
Mr Nuttall’s inactivity was such that he clearly would not have been considered a de facto director if he was not the director of the corporate director. However, inactivity of individual directors of corporate directors may result in misfeasance and loss to companies just as negligent actions can. Good corporate governance requires individual directors’ active participation in companies’ management. Accordingly, it may not be good policy if individual directors of corporate directors’ are not de facto directors (and therefore do not owe companies duties) where those individuals are in a position to make important decisions yet remain passive.
Recently, Re UKL1 Limited, Secretary of State for Business v Chohan46 further clarified that to be a de facto director the power of a person to intervene to prevent a company’s important decision from being made or implemented may be sufficient.47 This case did not involve corporate directors. However, it may influence a different approach toward passive directors of corporate directors to be taken in the future.
Jurisdictions which require corporate directors to be licensed may exercise their regulatory investigatory or other powers upon administration companies who do not ensure satisfactory corporate governance. These powers may be exercised in circumstances where individual directors of corporate directors’ have remained passive when they ought to have taken action to procure a corporate director to fulfil its duties.
Consultants
The minority considered that Primlake Ltd v Matthews emphasised the importance of individual conduct over legal capacity but did not consider it appropriate in a dissenting judgment to explore the case in detail because it was not cited to the Court. In Primlake’s case, the defendant, Mr Matthews: 48
provided consultant architectural services (as a sole trader) to Primlake Limited (Primlake);
made Primake’s important decisions;
held himself out as holding complete authority over Primlake; and
dishonestly caused Primlake to pay him fees to which he was not entitled.
The Court determined that Mr Matthews held the fees on constructive trust for Primlake. Accordingly, it was not imperative that Mr Matthews be a de facto director for the claimant to obtain a remedy. The argument that Mr Matthews’ was solely acting in his capacity as a consultant (albeit in his personal legal capacity) can be compared to the assertion that Mr Holland was acting solely in his legal capacity as director of the corporate director. Mr Matthews’ conduct extended beyond that expected of a consultant because he made important decisions for Primlake and caused those decisions to be implemented. In contrast to consultants, a director of a corporate director could reasonably be expected to procure the corporate director to: make the company’s important decisions; and comply with its duties to the company.
Consultants whose businesses are structured as unincorporated organisations do not have the benefit of asserting that their conduct is attributable to something other than their personal legal capacity. The majority’s approach towards the legal capacity issue has the consequence that, where the conduct of directors of corporate directors’ (on the one hand) and unincorporated consultants (on the other) is identical, directors of corporate directors would be substantially less likely to be de facto directors. This different treatment is far from ideal and is unlikely to reflect legislative intent.
Comparison to trust and tort cases
A challenge of determining when directors of corporate directors may be de facto directors is that it may be perceived that the approach proposed may require reconciliation with that taken by courts applying other areas of law to analogous circumstances. This perception was evident in Holland’s case. For example, the trust law concept of trustee de son tort or de facto trustees primarily seeks to deal with circumstances where a person, who is not the appointed trustee, deals with trust property as though the person was the appointed trustee.49 The difficulty comparing the concepts of de facto trustees and de facto directors are that trusts and companies are different in material respects. For example:
a trust is not a legal entity but an arrangement ordinarily involving a settlor, trustee, beneficiaries (or enforcer) and others;
trustees hold trust property
50 whereas it is the company, not its directors, which hold a company’s property;
trustees enter contracts personally regarding the trust fund whereas it is the company, rather than its directors, who is the party to contracts regarding the company; and
trustees ordinarily owe duties to beneficiaries
51 whereas directors owe duties to the company rather than the company’s shareholders.
An individual who is a company’s de facto director may not consequently be generally liable for all of the company’s liabilities. 52 Aside from certain strict liability provisions imposed upon directors, a breach of a duty would generally be required before the de facto director would be exposed to personal liability. In contrast, an individual who is a de facto trustee risks direct exposure to all liabilities the de facto trustee has incurred regarding the trust during the period that the individual was de facto trustee of the particular trust, regardless of any breach of trust or specific statutory provision.
Direct and indirect duties
Trust cases have also explored whether directors of corporate trustees owe fiduciary and tortious duties to trust beneficiaries:
53
directly, because individuals who accept the position of a corporate trustee’s director arguably have implicitly accepted that they owe duties to the trust’s beneficiaries;
indirectly, because claims for breach of duties that a corporate trustee (or its liquidator) may have against its directors regarding a trust’s loss may constitute trust assets; and
in circumstances where the corporate veil may be lifted if the corporate trustee is found to be a sham.
Certain jurisdictions have (or have had) specific legislation to impose personal liability directly on corporate trustees’ directors to essentially guarantee trust liabilities.54 The dominant view, applied in the UK for many years since Bath v Standard Land,55 is that a corporate trustee’s directors owe duties only to the corporate trustee and do not owe duties directly to beneficiaries notwithstanding any special circumstances. This appears to be the position even in circumstances
56 where a corporate trustee has a small number of directors and shareholders, is trustee of one trust and holds few assets aside from those contained within the trust it administers.57Gregson v H.A.E Trustees58 acknowledged that directors of corporate trustees’ have a greater involvement in a trust’s management relative to advisors engaged by corporate trustees for a trust but held that did not justify the imposition of duties on directors of corporate trustees. These cases considered whether, as a matter of legal principle, a common law or fiduciary duty is owed to beneficiaries by corporate trustees. They did not require construction of statutory director liability provisions and whether a de facto director falls within the meaning of ‘director’ for the purpose of particular director liability provisions. This requires a different analysis.
Dishonest assistance
The doctrine of ‘dishonest assistance’ has developed primarily in trust cases in response to circumstances where a stranger to a trust can be liable to compensate the trust fund for loss if the stranger has dishonestly assisted in the breach.59 The ‘combined’ test for dishonesty ‘…requires that before there can be a finding of dishonesty it must be established that the defendant’s conduct was dishonest60 by the ordinary standard of reasonable and honest people and that he himself realised that by those standards his conduct was dishonest.’ The test is considered to have a high threshold.61 Negligence does not constitute dishonesty under the test.62 Conduct which constitutes reckless disregard to the rights of others may be indicative, but not determinative, of dishonesty.63 Notably, the doctrine does not require that the stranger be a de facto trustee. This may prompt the question whether something other than dishonesty is required to fulfil the something-more requirement? If not, the utility of the something-more requirement may be limited given the availability of alternate causes of action for dishonest assistance and deceit.
Agents’ personal duties of care to third parties
Certain negligence cases,64 including Merrett v Babb65 have held that employees may in a ‘severely restricted’66 range of circumstances personally owe direct duties of care to third parties for the employees’ work. Judges have been divided in their rationale. For example, in Williams v Natural Life Health Foods,67 the House of Lords unanimously held that a company’s sole director did not owe a duty of care directly to a purchaser for negligent misstatements in the company’s final projection which the director had largely prepared. The absence of a direct relationship between the director and purchaser was crucial to the Court concluding that it was unreasonable for the purchaser to believe that the director had assumed personal responsibility for the company’s misrepresentations.68 Other jurisdictions have adopted a comparable approach to that in Williams’ case.69
In Merrett’s case, an employed surveyor was held to owe a duty of care to a purchaser acquiring a modestly valued property in circumstances where the employee had negligently prepared a survey report subsequently seen by the purchaser. The Court rejected the ‘assumption of responsibility’ test adopted in Williams’ case and held the test was to determine whether there was a sufficiently proximate relationship and it would be just and reasonable that a duty of care should be imposed in the circumstances.70 Merrett’s case was decided on specific facts71 and has been criticised as utilising a vague test and being difficult to reconcile with the: concept of separate corporate personality; and position of employees who generally do not have control over the terms and scope of an engagement.72
Exploring analogies of trust and tort cases may be helpful to a degree. However, that may be unnecessary if it is accepted that an assessment of whether an individual is a de facto director for the purpose of director liability provisions requires a Court to focus on the conduct of individuals involved in a company’s decision-making, regardless of whether the individual may have been an agent of another company.
Conclusion
De facto director cases inevitably involve detailed examination of facts. Wide variations of facts are possible and cases inevitably tend to be lengthy and complex. However, this does not mean that the law should remain uncertain or inconsistent due to diverging views regarding legislative intent. The something-more requirement does not provide certainty in the law nor can it simplify cases’ factual backgrounds.
Based on the purpose of director liability provisions, the starting point to determining whether an individual director of one company is another company’s de facto director should be to determine, whether the individual, alone or with others, would reasonably be expected to ultimately determine the company’s important decisions. This involves a determination of fact and does not depend on the individual’s legal or other capacity. It does not discount the possibility that companies may also be de facto directors in addition to individuals and does not require an analysis of analogous trust and tort cases.
Individual directors of corporate directors ultimately determine companies’ important decisions whether or not they exert influence. This may not be the case for individual directors of incorporated shareholders, creditors or consultants. However, the decisions in Holland’s case and Nutall’s case do not support this approach.
In my opinion it is unlikely that the majority’s decision would have differed had HMRC:
relied upon Mr Holland’s neglect to comply with certain provisions in the companies’ governing documents;
argued that the corporate director was a sham or that Mr Holland’s decision to pay the unlawful dividends constituted dishonesty; or
relied upon Primlake’s case,
because the facts in Holland’s case could be distinguished from Primlake’s case (based on the majority’s approach) and were insufficient to satisfy the high thresholds required to establish a sham or that Mr Holland’s conduct regarding the unlawful dividends constituted dishonesty.
The minority’s focus on what the individual did rather than the individual’s legal capacity is preferable to the majority’s approach. However, the minority accepted the something-more requirement. Accordingly, the minority’s approach, if applied, may in practice lead to similar outcomes to that of the majority’s approach in cases where a corporate director has a board consisting of numerous individual directors.
Future cases may explore whether the something-more requirement would be satisfied by conduct of an individual director of corporate directors’ in relation to a company’s important decisions consisting of: sole or substantial control over the decisions; deliberate, reckless or dishonest conduct; or being held out as the company’s director.
Alternatively, the something-more requirement may be discarded in favour of another approach such as that suggested above. Jurisdictions that regulate corporate directors may be comfortable with the outcome of Holland’s case particularly insofar as licensed corporate directors are concerned. The results may be less satisfactory if the majority’s approach is applied to unlicensed companies that exert influence over other companies.
Ideally, given the complexity and divergence of legal and policy issues, legislatures in common-law jurisdictions, would amend their company law to clarify when individual directors of corporate directors or other companies may be de facto directors. The policy adopted would be influenced by factors which would include whether or not and how corporate directors are regulated in the jurisdiction. Jurisdictions that require corporate directors to be licensed may specifically provide that individual directors of licensed corporate directors shall not be de facto directors of companies while otherwise implementing the approach suggested.
Notwithstanding the decision in Holland’s case still stands, corporations which exert influence on other companies should not presume that claims will not be brought alleging that their individual directors are de facto directors of another company simply because those claims are difficult. Inevitably, difficult arguments will be tested where large sums are involved. Considering the arguments and evidence and responding to such claims can cost individuals and administration companies large sums unrecoverable from the claimant or insurers. Ensuring good corporate governance, including maintaining sound record keeping and meeting practices will reduce the prospects of such claims.
1. Re Kaytech International plc [1999] 2 BCLC 351 (Kaytech’s case)
2. Solomon v A Solomon and Co [1897] AC 22 and Foss v Harbottle (1843) 67 ER 189
3. HMRC v Holland [2010] UKSC 51, Lord Collins at p54
4. The International Monetary Fund has defined ‘Offshore Financial Centres’ as ‘jurisdictions that have relatively large numbers of financial institutions engaged primarily in business with non-residents.’ The non-residents are generally subject to more favourable tax rates than the residents. For the purpose of this article, the definition is limited to those of such centres which are common-law jurisdictions
5. HMRC v Holland
6. Section 201B(1) Corporations Act 2001 (Cth); s145(2) Singapore Companies Act Cap 50; s105(1)(c) Canada Business Corporations Act 1985; s105(1)(c) New York Business Corporation Law; and s141b Delaware General Corporate Law
7. Section 154A Hong Kong Companies Ordinance Cap 32 and the Companies Act 2006 (UK)
8. For a definition of ‘corporate governance’ refer to ‘OECD Principles of Corporate Governance, revised April 2004, originally issued June 1999
9. Singapore Steering Committee for Review of the Companies Act, ‘Review of Companies Act and Foreign Entities Act’, June 2011
10. Margaret Hodge, Minister of State for Industry and Regions, House of Commons Standing Committee speech regarding the Company Law Reform Bill of UK, 2006, Clause 140. The amendment introducing the requirement that there be at least one individual as a director of a company was passed by the House of Commons Standing Committee by 12 votes to 6
11. In Jersey the Companies Amendment (No. 2) (Jersey) Regulations 2008 and in Bermuda, the Companies Amendment (No. 2) Act 2011
12. Article 73, Companies (Jersey) Law 1991
13. Section 2(2)(c)(vi) and s2(5) of the Act
14. Section 2(2) of the Act
15. Including, for example, to cover circumstances where an individual is ill or otherwise unavailable
16. Hansard. States of Jersey. Official report. Tuesday 15 January 2008
17. Secretary of State for Trade and Industry v Tjolle [1998] 1 BCLC 333
18. HMRC v Holland Lord Collins at p91 and Lord Clarke at p137. See also Secretary of State for Trade and Industry v Hollier [2007] BCC 11 Etherton J at p 343, 344 and Gemma Ltd v Davies [2008] 2 BCLC 281
19. [2011] EWCA Civ 810
20. Chohan’s case at p41
21. Re Richborough Furniture Ltd [1996] 1 BCLC 507. Timothy Lloyd QC sitting as deputy High Court judge at p524 which appears to have been accepted in Holland’s case. However, note that in Chohan’s case Hildyard J at p41 prefers a ‘looser fact-based approach’ than a more rigid requirement for a person to act on ‘equal-footing’ with other directors or de facto directors
22. Holland’s case. Lord Hope at p32 and Lord Walker at p108 and p121; Re Mea Corpn Ltd [2007] 1 BCLC, per Lewison J at p83. See also Ultraframe (UK) Ltd v Fielding (No 2) [2005] EWHC 1638 (Ch) Lewison J, Secretary of State for Trade and Industry v Hollier at p66 and Secretary of State for Trade and Industry v Tjolle and Holland’s case. In Australia: In the matter of Idyllic Solutions Pty Ltd- Australian Securities and Investment Commission v Hobbs [2012] NSWC 1276, contrasts with Re Hydrodam Corby Ltd [1994] 2 BCLC 180 (Hydrodam’s case). In Canada: Scavuzzo v The Queen [2006] 2 CTC 2429 at p32. In the United States: Osler Institute Inc v Forde F 832 (7th Cir 2003); and [1994] 2 BCLC 180
23. Chohan’s case. Hildyard J at p41. See also McKillen v Misland Cyprus Investments Ltd [2012] EWHC 521v (Ch)
24. Gemma Ltd v Davies. Jonathan Gaunt QC sitting as deputy judge of the High Court at p42. See also Nicholas Briggs and Hugh Sums, Guildhall Chambers, ‘Identifying De facto directors after Paycheck’, June 2011
25. Holland’s case, Lord Collins at p91
26. In the matter of Idyllic Solutions Pty Ltd- Australian Securities and Investment Commission v Hobbs
27. [1994] 2 BCLC 180 at p184
28. Holland’s case. Lord Clarke at p112, Lord Walker at p112 and p115 and Lord Hope at p29. Lord Saville adopted Lord Hopes’ and Lord Collins’ reasoning at p100
29. For example, to avoid pre-existing legal obligation as in Gilford Motor Company Ltd v Horne [1933] Ch 135 or where special circumstances indicate the company was formed as part of the defendant controllers’ impropriety to deceive others as Munby J indicated in Faiza Ben Hashem v Shayif [2008] EWHC 2380 (Fam). See also Dov Ohrenstein – Barrister, Radcliffe Chambers ‘Lifting the Corporate Veil’
30. Holland’s case, Lord Clarke, at p127
31. Holland’s case, Lord Clarke at p140 and Lord Walker at p119
32. Holland’s case, Lord Walker at p115, Lord Clarke at p139
33. Holland’s case, Lord Walker at p123
34. Holland’s case, Lord Hope at p20 and Lord Clarke at p96
35. Holland’s case, Lord Hope at p42 and Lord Collins at p54
36. Holland’s case, Lord Walker at p113 and Lord Clarke at p127
37. Holland’s case, Lord Collins at p96 and Lord Saville at p98
38. For example s250 Companies Act 2006 (UK), s131 Companies (Guernsey) Law 2008; article 1 Companies (Jersey) Law 1991; s2 Companies Act 1981 (Bermuda), s2 Business Companies Act 2004 (British Virgin Islands), s3(2) Corporate Service Provider Act 2012 (Bermuda); s126 Companies Act 1993 (New Zealand). Certain jurisdictions, such as the UK and Guernsey, include a separate definition for ‘shadow directors’. Other jurisdictions have an extended definition for ‘director’ to effectively incorporate the concept of ‘shadow director’. In this regard, see s201B(1) Corporations Law 2001 (Cth) (Australia) and s4(1)(2) Companies Act Cap 50 (Singapore)
39. [1988] 3 Ch 477
40. [1988] 3 Ch 477 at p489
41. Re Atlantic Computers plc. (ChD) Unreported. 15 June 1998 Timothy Lloyd J
42. Geoff Rankin, Michael Popkin, ‘Parent, Director and Related Exposures, the Erosion of Limited Liability- Extending the reach of Liquidators’ Allens Arthur Robinson, 4 August 2004, p5. See also Atlantic Computers plc
43. Rankin and Popkin
44. Re Lo-Line Electric Motors, Re Atlantic Computers, Secretary of State v Sullman [2008] EWHC 3179 (Ch), [2009] 1 BCLC 397 at 399 and Chohan’s case at p20
45. [2006] EWHC 1995 (Ch)(Nuttall’s case)
46. Gemma Ltd v Davies
47. Chohan’s case at p32-33
48. [2006] EWHC 1227 (Ch) (Primlake’s case)
49. John Mowbray QC, Lynton Tucker, Nicholas Le Poidevin QC, Edwin Simpson, James Brightwell, ‘Lewin on Trusts’ (18th edition) 2012 Sweet and Maxwell, at 42 to 47; and Thomas G, Hudson A, The Law of Trusts Oxford University Press at para 30.03
50. For example OFC trust legislation often does not directly define ‘trustee’ but essentially describes a ‘trustee’ within the definition of a ‘trust’ as a person that is determined to have possession, or be vested with, property of which the person is not personally the owner. See article 2 Trusts (Jersey) Law 1984, s1 Trusts (Guernsey) Law 2008 and s1 Trustee Act 1975 (Bermuda)
51. Generally, enforcers of non-charitable purpose trusts or the Attorney General or equivalent in a number of common-law jurisdictions can apply to the Court to seek remedies against trustees who fail to perform the trusts
52. This appears consistent with Chohat’s case. See also Heap Huat Rubber Company Sdn Bhd v Kong Choot Sian [2004] SGCA 12 and Singapore Steering Committee for Review of the Companies Act at p5
53. David Pollard, Freshfields, ‘Liability of Directors of a Corporate Trustee’ issue 9, October 1999, The Association of Corporate Trustees, The TACT Review; and G D Clewes, Barrister, ‘The Liability of Directors of a Corporate Trustee’ a paper delivered to the conference of the Society of Trust and Estate Practitioners on 28 September 2004
54. Jersey and Guernsey each had specific provisions in their trust legislation (now repealed) whereby CT’s directors were required to guarantee the CT’s liabilities that accrued in its trustee capacity. See also s197 Corporate Act (2001) Cth (Australia)
55. [1911] 1 Ch 681 (Bath’s case)
56. Bath’s case. Cozens-Hardy MR at p67. See also Eilson v Bury (1880) 5 QBD 518, HR v JAPT [1997], and Australian Securities Commission v A S Nominees [1996] ALR 297
57. HR v JAPT [1997] OPLR 123 in particular
58. [2008] EWHC 1006 (Ch)(Gregson’s case)
59. See Barnes v Addy (1874) LR 9 Ch App 244 and Royal Brunei Airlines v Tan [1995] 2 AC 378. The doctrine has been applied to directors of corporate trustees in Compaq Computer Australia Pty Ltd v Merry (1998) ALR 1 and Wakelin v Read [1998] PLR 337 and to directors of companies generally as, for example, in Starglade Properties Ltd v Roland Nash [2010] EWCA Civ 1314, 19
60. Twinsectra v Yardley, Lord Hoffman at p27
61. Royal Brunei Airlines v Tan required the defendant to have acted with ‘conspicuous impropriety’; and Compaq Computer Australia Pty Limited v Merry (1998) ALR 1
62. Royal Brunei Airlines v Tan
63. Agip (Africa) Limited v Jackson [1991] Ch 547
64. Yazhou Travel Investment Co Ltd v Bateson [2004] HKCFI 258
65. [2001] 3 WLR 1
66. Williams v Natural Health Foods Ltd and Anor, Lord Waite at p154D-F. Note Lord Waite, along with Lord Hirst, ultimately held that the director was personally liable which was overturned on appeal
67. [1998] 2 All ER 577
68. [1998] 2 All ER 577 per Lord Steyn
69. For example, in Canada, see Edgeworth Construction Limited v ND Lea and Associates Ltd [1993] 3 SCR 206; in New Zealand, see Trevor Ivory Ltd v Anderson [1992] 2 N.Z.L.R 517, in Northern Ireland, see Curran v Northern Ireland Co-Ownership Housing Association (1986) 8 NIJB 1; in Australia in O’Brien v Dawson (1942) 66 CLR 18 and Root Control Technologies Pty Ltd (2000) ALR 231
70. Merrett’s case, Lord May p41
71. The purchaser had limited means and was purchasing a modestly valued property and for those reasons it was considered reasonable for the employee to rely on the report and not obtain an independent report. Note, the employee was uninsured and his employer’s trustee in bankruptcy had disclaimed the insurance policy which may have responded to the claim
72. Refer to footnote 71
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Ashley Fife
De facto directors are persons who have not been formally appointed as directors of a company but have ‘assumed the status and functions of directors’.1
Persons who are determined to be de facto directors may find themselves subject to the same duties to the company as formally appointed directors, exposed to claims for breach of director duties and potentially liable for a company’s unsatisfied tax liabilities. A company in one jurisdiction may also find itself deemed to be tax resident in another jurisdiction from which the de facto director exerts control resulting in a significant unexpected tax liability.
The two questions this article explores are:
In what circumstances can or should individuals who are directors of one company (such as a corporate director) be determined to be de facto directors of a second company?
When considering the above question, to what extent is focusing on an individual’s conduct, rather than his or her legal capacity, contrary to the principle that companies are separate legal entities from their directors and shareholders?2
Until recently, case law regarding de facto directors in most common-law jurisdictions developed in circumstances where corporate directors of companies were not prevalent; and cases involved facts where there had been defects in the appointments or resignations of individual directors or where individuals continued acting as directors following their resignation or removal.3 Consequently, cases did not consider whether an individual’s conduct could be attributed to that individual’s legal capacity as director of a corporate director and, if it did, whether it then followed that the individual did not owe duties to the company.
An important decision of a company is one which would only be expected to be made by that particular company’s directors. The objective of ensuring that individuals who make companies’ important decisions are identifiable and accountable has deterred jurisdictions from permitting the appointment of corporate directors. Some common-law offshore financial centres (OFCs)4 may consider that this objective can be satisfied by the licensing and supervision of administration companies or corporate directors. However, such licensing does not clarify the circumstances in which directors of corporate directors may be de facto directors.
In Holland v HMRC (Holland’s case),5 a majority of three (the majority) to two (the minority) of the UK’s Supreme Court held that Mr Holland was not a de facto director of a number of companies with the consequence that he could not be liable for the companies’ unpaid tax liability. This was despite that he had at all times been a director of the companies’ corporate director and had made all important decisions for the companies including payment of unlawful dividends. The Court’s divisiveness in Holland’s case and the nature and complexity of the legal and policy issues suggest that courts (in the UK and elsewhere) may in future reach different conclusions from the majority.
This article also considers issues that lawmakers consider when deciding whether to permit appointment of corporate directors; and approaches taken in trust and tort cases dealing with issues analogous to those in Holland’s case.
Policy considerations
Many jurisdictions, such as Australia, Canada, Singapore, New Zealand and Delaware, do not permit the appointment of corporate directors.6 Hong Kong and the UK permit appointment of corporate directors as directors of private companies as long as there is also at least one individual director.7 However, this creates a situation where, based on Holland’s case, the individual director owes the company fiduciary duties but the directors of the corporate director do not. This is far from ideal unless there is a coherent policy rationale for adopting such an approach.
There may be concerns that permitting appointment of corporate directors (particularly as sole directors) may adversely impact the reputation of the jurisdiction that permit them because the quality of companies’ corporate governance8 may suffer and because of the difficulty identifying the individuals who control the corporate director and detecting fraud;9 the difficulty enforcing obligations against corporate directors because fines are ultimately met by corporate directors’ shareholders and the threat of imprisonment of corporate directors may be ineffectual;10 and the possibility that corporate directors may maintain insufficient assets to satisfy creditors’ claims.
In certain circumstances, many OFCs, including Bermuda, Jersey, Guernsey, British Virgin Islands and Cayman Islands permit the appointment of corporate directors without a requirement to also appoint individual directors.11 Jersey has expressly permitted appointment of corporate directors on conditions which include that each corporate director only has individual directors and is licensed and supervised by the regulator (the ‘conditions’).12
Not all jurisdictions expressly require corporate directors to be licensed, although there may be a general move by OFCs in that direction, particularly in those jurisdictions which require administration companies to be licensed. For example, Bermuda’s Corporate Service Provider Business Act 2012 (the Act) requires persons other than individuals who are for profit ‘acting or fulfilling the function of or arranging for another person to act or fulfil the function of director’13 to obtain the relevant license. However, the Act does not appear to require a corporate director to obtain a license where it is not remunerated.14
The primary attraction for permitting appointment of corporate directors is the increased flexibility and efficiency for both the administration companies and regulators because use of corporate directors facilitates: the speed that companies can be incorporated; the removal of the need to effect frequent appointments and resignations of individual directors; and a larger number of individuals being available to implement transactions for administration companies’ client companies.15
Individuals who accept the position of a director of a corporate director may be expected to familiarise themselves with the corporate director’s activities, including the activities of the companies of which the corporate director is a director. If the law were that individual directors of corporate directors’ were automatically deemed de facto directors, those individuals would owe the same duties to companies as are owed by individuals who are formally appointed as directors of companies and have the certainty that they owe those duties.
In OFCs, such as Jersey, which decide to permit appointment of corporate directors subject to conditions, the regulators may require the administration companies to hold information which confirms the identities of the beneficial owners of the client companies which they administer and corporate directors (and their directors) would essentially be supervised as part of the regulator’s overall regulation of administration companies. The misuse of corporate directors may be minimised in regulated jurisdictions due to the supervision of administration companies to ensure they comply with the regulator’s codes of practice.
Employees of administration companies who act as directors of corporate directors may be considerably more exposed to personal claims brought against them if they were automatically deemed to be de facto directors of companies. OFCs may consider this undesirable16 because such employees may consider that it is safer not to participate in complex decisions of client companies for fear of being a de facto director, and administration companies may ultimately experience increased staffing costs in order to attract suitably qualified and experienced individuals to act as directors of corporate directors.
Claimants may take comfort as corporate directors in regulated jurisdictions may be more likely to have sufficient assets to meet claims where there are requirements for administration companies to maintain specified minimum levels of capital and insurance.
When is a person a de facto director?
It is difficult to formulate a single decisive test to determine when a corporate entity or an individual (each, a ‘person’) may be a de facto director due to the numerous possible factual variations.17 The following principles have emerged in the UK regarding the determination whether a person is a de facto director:
A person will be a de facto director if the person was ‘part of the corporate governance of the a company’18 or, as expressed more recently in Re Mumtaz Properties Ltd, if the person was ‘one of the nerve centres from which the activities of the company radiated.’19
Consideration must be given to all relevant factors including the nature and activities of the company, and whether the person made important decisions for the company 20
alone or on an equal footing with others.21
A person who used the title of ‘director’ or was otherwise held out by the company as being a director of the company is not conclusive because ‘in considering whether a person “assumes to act as a director” what is important is not what he calls himself but what he did.’ 22
A person may be a de facto director for the purpose of certain decisions of the company and not others. 23
A person is entitled to the benefit of the doubt if it is unclear in what capacity the person’s conduct relates.24
Holland’s case did not examine what constitutes an important decision but acknowledged the difficulty in determining the functions which are the directors’ sole responsibility.25 Other cases indicate that it depends on whether the particular decision could materially impact upon the company’s financial standing, or a substantial part of the company’s business.26 The crucial difference between the majority and the minority were their approaches regarding whether Mr Holland’s conduct could be attributed entirely to his legal capacity as director of the corporate director.
Legal capacity
Most of the judges in Holland’s case adopted Millet J’s approach in Re Hydrodam Corby Ltd27 (Hydrodam’s case) insofar that they considered something more than a director of a corporate director’s active participation in the company’s decision-making process would be required for that individual to be a de facto director of a company28 (the something-more requirement). The question then is: ‘What conduct would satisfy the something-more requirement’?
In Holland’s case, HMRC did not assert (nor did the facts support) that the corporate director was a sham29 or that Mr Holland had been dishonest, shown substantial disregard of the formalities required by the companies’ governing documents, or held himself out as being the companies’ director.
The minority concluded that:
whether individuals are de facto directors primarily involves consideration of what individuals do by their own initiative;30
a determination that an individual director of a corporate director is a de facto director ‘does not involve the piercing of the corporate veil’;31
Mr Holland satisfied the something-more requirement and was a de facto director because he exercised: (i) complete control over the companies’ decisions; and (ii) independent initiative to deliberately cause the payment of the unlawful dividends;32 and
there is an ‘important difference between a multiplicity of human directors participating in the collective governance of a single corporate director… and a single individual director who is the guiding mind of a single corporate director.’33
In contrast, the majority determined that:
the Court must first consider the legal capacity in which the individual was acting;34
adopting Millet J’s approach in Hydrodam’s case, ‘so long as the relevant acts done by the individual entirely within the ambit of the discharge of his duties and responsibilities as a director of the corporate director, it is in that capacity that his acts must be attributed;’
all of Mr Holland’s conduct, including paying the unlawful dividends, could be attributed to his legal capacity as director of the corporate director; and
for courts to impose fiduciary duties on directors of corporate directors to companies was a dramatic extension of the law and the legislature should amend the law if that is what it intended.35
The majority did not elaborate regarding what conduct would satisfy the something-more requirement. It is difficult to identify many circumstances where directors of corporate directors would be de facto directors based on the majority’s reasoning. However, the minority considered that Hydrodam’s case was considerably different to those of Holland’s case primarily because the parent company exerting influence on the company had numerous directors. Further, there was no evidence in that case of any positive action that the particular directors of the parent company did of their own initiative regarding Hydrodam’s important decisions.36
On the minority’s analysis, it is difficult to identify circumstances where a sole director of a corporate director would not be a de facto director. The majority considered it would be an unsatisfactory outcome if all sole directors of corporate directors were automatically de facto directors.37 However, it is logical that a sole director of a corporate director should be a de facto director in most circumstances because that individual would be expected to make the company’s important decisions.
Legislative intent
General statutory definitions of ‘director’ vary between jurisdictions. However, in many common-law jurisdictions, the relevant statutory definition includes language substantially to the effect that a ‘director’ includes ‘any person occupying the position of director by whatever name called.’38
The immediate focus at the time this definition was introduced may have been to include within the definition those persons who perform directors’ functions but who, in companies’ governing documents, are given titles other than ‘director’ (for example, ‘president’ or ‘governor’).
However, Re Lo-Line Electric Motors Ltd,39 held that:
the general definition of ‘director’ was not exhaustive and that its meaning had to be derived from the relevant statute as a whole;40
whether a reference to ‘director’ in a statutory provision included de facto directors was a matter for construction of the particular section; and
it was apparent from the directors disqualification provision being considered that ‘the plain intention of parliament…was to have regard to the conduct of a person acting as a director, whether validly appointed, invalidly appointed, or just assuming to act as a director without any appointment at all.’
Statutory director liability provisions essentially lift the corporate veil in specific circumstances to focus on the conduct of persons who ultimately determine companies’ decisions. Individuals are the ultimate source of companies’ conduct. The intention of directors liability provisions is to prevent directors’ abuse of companies’ limited liability status41 by:
placing limits on the extent that individual directors can avoid personal liability for specific irresponsible decisions;42
enabling companies (through their liquidators) and creditors of companies to recover monies from those individuals for companies’ losses resulting from those individuals’ specific irresponsible conduct;43 and
disqualifying individuals responsible from gross mismanagement of companies from acting as directors thereby protecting the public.44
Disqualifying particular corporate entities from acting as corporate directors does not protect the public from the individuals who ultimately cause companies to be mismanaged. The individuals can simply form another corporate director and, through that vehicle, continue to manage companies.
It may contradict legislative intention if director liability provisions could be rendered ineffectual by arrangements, such as use of corporate directors, which effectively insert another corporate veil. Rather, it may be more logical and consistent with the nature of director liability provisions to conclude that the legislature would have contemplated that individuals may be de facto directors even where their conduct was performed in the legal capacity as director of a corporate director or another corporate entity.
Further legislative amendment is required in most common-law jurisdictions to add clarity surrounding how the issue of legal capacity should be approached by the courts regarding identification of de facto directors in circumstances where companies use corporate directors. The approach of the legislatures of different jurisdictions may vary because many do not permit appointment of corporate directors and the nature of regulation of corporate directors varies between those that do.
Inactive directors of corporate directors
In Secretary of State for Trade and Industry v Hall (Nutall’s case),45 Mr Nutall was the sole owner and director of a corporate director which acted as director of his clients’ company. Mr Nuttall had specifically agreed with his clients that neither the corporate director nor Mr Nuttall would be involved in the company’s management. However, Mr Nuttall: was the only individual ultimately responsible for the corporate director’s inactivity and its failure to perform its duties; and made the important decision to cause the corporate director to remain inactive.
Mr Nuttall’s inactivity was such that he clearly would not have been considered a de facto director if he was not the director of the corporate director. However, inactivity of individual directors of corporate directors may result in misfeasance and loss to companies just as negligent actions can. Good corporate governance requires individual directors’ active participation in companies’ management. Accordingly, it may not be good policy if individual directors of corporate directors’ are not de facto directors (and therefore do not owe companies duties) where those individuals are in a position to make important decisions yet remain passive.
Recently, Re UKL1 Limited, Secretary of State for Business v Chohan46 further clarified that to be a de facto director the power of a person to intervene to prevent a company’s important decision from being made or implemented may be sufficient.47 This case did not involve corporate directors. However, it may influence a different approach toward passive directors of corporate directors to be taken in the future.
Jurisdictions which require corporate directors to be licensed may exercise their regulatory investigatory or other powers upon administration companies who do not ensure satisfactory corporate governance. These powers may be exercised in circumstances where individual directors of corporate directors’ have remained passive when they ought to have taken action to procure a corporate director to fulfil its duties.
Consultants
The minority considered that Primlake Ltd v Matthews emphasised the importance of individual conduct over legal capacity but did not consider it appropriate in a dissenting judgment to explore the case in detail because it was not cited to the Court. In Primlake’s case, the defendant, Mr Matthews: 48
provided consultant architectural services (as a sole trader) to Primlake Limited (Primlake);
made Primake’s important decisions;
held himself out as holding complete authority over Primlake; and
dishonestly caused Primlake to pay him fees to which he was not entitled.
The Court determined that Mr Matthews held the fees on constructive trust for Primlake. Accordingly, it was not imperative that Mr Matthews be a de facto director for the claimant to obtain a remedy. The argument that Mr Matthews’ was solely acting in his capacity as a consultant (albeit in his personal legal capacity) can be compared to the assertion that Mr Holland was acting solely in his legal capacity as director of the corporate director. Mr Matthews’ conduct extended beyond that expected of a consultant because he made important decisions for Primlake and caused those decisions to be implemented. In contrast to consultants, a director of a corporate director could reasonably be expected to procure the corporate director to: make the company’s important decisions; and comply with its duties to the company.
Consultants whose businesses are structured as unincorporated organisations do not have the benefit of asserting that their conduct is attributable to something other than their personal legal capacity. The majority’s approach towards the legal capacity issue has the consequence that, where the conduct of directors of corporate directors’ (on the one hand) and unincorporated consultants (on the other) is identical, directors of corporate directors would be substantially less likely to be de facto directors. This different treatment is far from ideal and is unlikely to reflect legislative intent.
Comparison to trust and tort cases
A challenge of determining when directors of corporate directors may be de facto directors is that it may be perceived that the approach proposed may require reconciliation with that taken by courts applying other areas of law to analogous circumstances. This perception was evident in Holland’s case. For example, the trust law concept of trustee de son tort or de facto trustees primarily seeks to deal with circumstances where a person, who is not the appointed trustee, deals with trust property as though the person was the appointed trustee.49 The difficulty comparing the concepts of de facto trustees and de facto directors are that trusts and companies are different in material respects. For example:
a trust is not a legal entity but an arrangement ordinarily involving a settlor, trustee, beneficiaries (or enforcer) and others;
trustees hold trust property
50 whereas it is the company, not its directors, which hold a company’s property;
trustees enter contracts personally regarding the trust fund whereas it is the company, rather than its directors, who is the party to contracts regarding the company; and
trustees ordinarily owe duties to beneficiaries
51 whereas directors owe duties to the company rather than the company’s shareholders.
An individual who is a company’s de facto director may not consequently be generally liable for all of the company’s liabilities. 52 Aside from certain strict liability provisions imposed upon directors, a breach of a duty would generally be required before the de facto director would be exposed to personal liability. In contrast, an individual who is a de facto trustee risks direct exposure to all liabilities the de facto trustee has incurred regarding the trust during the period that the individual was de facto trustee of the particular trust, regardless of any breach of trust or specific statutory provision.
Direct and indirect duties
Trust cases have also explored whether directors of corporate trustees owe fiduciary and tortious duties to trust beneficiaries:
53
directly, because individuals who accept the position of a corporate trustee’s director arguably have implicitly accepted that they owe duties to the trust’s beneficiaries;
indirectly, because claims for breach of duties that a corporate trustee (or its liquidator) may have against its directors regarding a trust’s loss may constitute trust assets; and
in circumstances where the corporate veil may be lifted if the corporate trustee is found to be a sham.
Certain jurisdictions have (or have had) specific legislation to impose personal liability directly on corporate trustees’ directors to essentially guarantee trust liabilities.54 The dominant view, applied in the UK for many years since Bath v Standard Land,55 is that a corporate trustee’s directors owe duties only to the corporate trustee and do not owe duties directly to beneficiaries notwithstanding any special circumstances. This appears to be the position even in circumstances
56 where a corporate trustee has a small number of directors and shareholders, is trustee of one trust and holds few assets aside from those contained within the trust it administers.57Gregson v H.A.E Trustees58 acknowledged that directors of corporate trustees’ have a greater involvement in a trust’s management relative to advisors engaged by corporate trustees for a trust but held that did not justify the imposition of duties on directors of corporate trustees. These cases considered whether, as a matter of legal principle, a common law or fiduciary duty is owed to beneficiaries by corporate trustees. They did not require construction of statutory director liability provisions and whether a de facto director falls within the meaning of ‘director’ for the purpose of particular director liability provisions. This requires a different analysis.
Dishonest assistance
The doctrine of ‘dishonest assistance’ has developed primarily in trust cases in response to circumstances where a stranger to a trust can be liable to compensate the trust fund for loss if the stranger has dishonestly assisted in the breach.59 The ‘combined’ test for dishonesty ‘…requires that before there can be a finding of dishonesty it must be established that the defendant’s conduct was dishonest60 by the ordinary standard of reasonable and honest people and that he himself realised that by those standards his conduct was dishonest.’ The test is considered to have a high threshold.61 Negligence does not constitute dishonesty under the test.62 Conduct which constitutes reckless disregard to the rights of others may be indicative, but not determinative, of dishonesty.63 Notably, the doctrine does not require that the stranger be a de facto trustee. This may prompt the question whether something other than dishonesty is required to fulfil the something-more requirement? If not, the utility of the something-more requirement may be limited given the availability of alternate causes of action for dishonest assistance and deceit.
Agents’ personal duties of care to third parties
Certain negligence cases,64 including Merrett v Babb65 have held that employees may in a ‘severely restricted’66 range of circumstances personally owe direct duties of care to third parties for the employees’ work. Judges have been divided in their rationale. For example, in Williams v Natural Life Health Foods,67 the House of Lords unanimously held that a company’s sole director did not owe a duty of care directly to a purchaser for negligent misstatements in the company’s final projection which the director had largely prepared. The absence of a direct relationship between the director and purchaser was crucial to the Court concluding that it was unreasonable for the purchaser to believe that the director had assumed personal responsibility for the company’s misrepresentations.68 Other jurisdictions have adopted a comparable approach to that in Williams’ case.69
In Merrett’s case, an employed surveyor was held to owe a duty of care to a purchaser acquiring a modestly valued property in circumstances where the employee had negligently prepared a survey report subsequently seen by the purchaser. The Court rejected the ‘assumption of responsibility’ test adopted in Williams’ case and held the test was to determine whether there was a sufficiently proximate relationship and it would be just and reasonable that a duty of care should be imposed in the circumstances.70 Merrett’s case was decided on specific facts71 and has been criticised as utilising a vague test and being difficult to reconcile with the: concept of separate corporate personality; and position of employees who generally do not have control over the terms and scope of an engagement.72
Exploring analogies of trust and tort cases may be helpful to a degree. However, that may be unnecessary if it is accepted that an assessment of whether an individual is a de facto director for the purpose of director liability provisions requires a Court to focus on the conduct of individuals involved in a company’s decision-making, regardless of whether the individual may have been an agent of another company.
Conclusion
De facto director cases inevitably involve detailed examination of facts. Wide variations of facts are possible and cases inevitably tend to be lengthy and complex. However, this does not mean that the law should remain uncertain or inconsistent due to diverging views regarding legislative intent. The something-more requirement does not provide certainty in the law nor can it simplify cases’ factual backgrounds.
Based on the purpose of director liability provisions, the starting point to determining whether an individual director of one company is another company’s de facto director should be to determine, whether the individual, alone or with others, would reasonably be expected to ultimately determine the company’s important decisions. This involves a determination of fact and does not depend on the individual’s legal or other capacity. It does not discount the possibility that companies may also be de facto directors in addition to individuals and does not require an analysis of analogous trust and tort cases.
Individual directors of corporate directors ultimately determine companies’ important decisions whether or not they exert influence. This may not be the case for individual directors of incorporated shareholders, creditors or consultants. However, the decisions in Holland’s case and Nutall’s case do not support this approach.
In my opinion it is unlikely that the majority’s decision would have differed had HMRC:
relied upon Mr Holland’s neglect to comply with certain provisions in the companies’ governing documents;
argued that the corporate director was a sham or that Mr Holland’s decision to pay the unlawful dividends constituted dishonesty; or
relied upon Primlake’s case,
because the facts in Holland’s case could be distinguished from Primlake’s case (based on the majority’s approach) and were insufficient to satisfy the high thresholds required to establish a sham or that Mr Holland’s conduct regarding the unlawful dividends constituted dishonesty.
The minority’s focus on what the individual did rather than the individual’s legal capacity is preferable to the majority’s approach. However, the minority accepted the something-more requirement. Accordingly, the minority’s approach, if applied, may in practice lead to similar outcomes to that of the majority’s approach in cases where a corporate director has a board consisting of numerous individual directors.
Future cases may explore whether the something-more requirement would be satisfied by conduct of an individual director of corporate directors’ in relation to a company’s important decisions consisting of: sole or substantial control over the decisions; deliberate, reckless or dishonest conduct; or being held out as the company’s director.
Alternatively, the something-more requirement may be discarded in favour of another approach such as that suggested above. Jurisdictions that regulate corporate directors may be comfortable with the outcome of Holland’s case particularly insofar as licensed corporate directors are concerned. The results may be less satisfactory if the majority’s approach is applied to unlicensed companies that exert influence over other companies.
Ideally, given the complexity and divergence of legal and policy issues, legislatures in common-law jurisdictions, would amend their company law to clarify when individual directors of corporate directors or other companies may be de facto directors. The policy adopted would be influenced by factors which would include whether or not and how corporate directors are regulated in the jurisdiction. Jurisdictions that require corporate directors to be licensed may specifically provide that individual directors of licensed corporate directors shall not be de facto directors of companies while otherwise implementing the approach suggested.
Notwithstanding the decision in Holland’s case still stands, corporations which exert influence on other companies should not presume that claims will not be brought alleging that their individual directors are de facto directors of another company simply because those claims are difficult. Inevitably, difficult arguments will be tested where large sums are involved. Considering the arguments and evidence and responding to such claims can cost individuals and administration companies large sums unrecoverable from the claimant or insurers. Ensuring good corporate governance, including maintaining sound record keeping and meeting practices will reduce the prospects of such claims.
1. Re Kaytech International plc [1999] 2 BCLC 351 (Kaytech’s case)
2. Solomon v A Solomon and Co [1897] AC 22 and Foss v Harbottle (1843) 67 ER 189
3. HMRC v Holland [2010] UKSC 51, Lord Collins at p54
4. The International Monetary Fund has defined ‘Offshore Financial Centres’ as ‘jurisdictions that have relatively large numbers of financial institutions engaged primarily in business with non-residents.’ The non-residents are generally subject to more favourable tax rates than the residents. For the purpose of this article, the definition is limited to those of such centres which are common-law jurisdictions
5. HMRC v Holland
6. Section 201B(1) Corporations Act 2001 (Cth); s145(2) Singapore Companies Act Cap 50; s105(1)(c) Canada Business Corporations Act 1985; s105(1)(c) New York Business Corporation Law; and s141b Delaware General Corporate Law
7. Section 154A Hong Kong Companies Ordinance Cap 32 and the Companies Act 2006 (UK)
8. For a definition of ‘corporate governance’ refer to ‘OECD Principles of Corporate Governance, revised April 2004, originally issued June 1999
9. Singapore Steering Committee for Review of the Companies Act, ‘Review of Companies Act and Foreign Entities Act’, June 2011
10. Margaret Hodge, Minister of State for Industry and Regions, House of Commons Standing Committee speech regarding the Company Law Reform Bill of UK, 2006, Clause 140. The amendment introducing the requirement that there be at least one individual as a director of a company was passed by the House of Commons Standing Committee by 12 votes to 6
11. In Jersey the Companies Amendment (No. 2) (Jersey) Regulations 2008 and in Bermuda, the Companies Amendment (No. 2) Act 2011
12. Article 73, Companies (Jersey) Law 1991
13. Section 2(2)(c)(vi) and s2(5) of the Act
14. Section 2(2) of the Act
15. Including, for example, to cover circumstances where an individual is ill or otherwise unavailable
16. Hansard. States of Jersey. Official report. Tuesday 15 January 2008
17. Secretary of State for Trade and Industry v Tjolle [1998] 1 BCLC 333
18. HMRC v Holland Lord Collins at p91 and Lord Clarke at p137. See also Secretary of State for Trade and Industry v Hollier [2007] BCC 11 Etherton J at p 343, 344 and Gemma Ltd v Davies [2008] 2 BCLC 281
19. [2011] EWCA Civ 810
20. Chohan’s case at p41
21. Re Richborough Furniture Ltd [1996] 1 BCLC 507. Timothy Lloyd QC sitting as deputy High Court judge at p524 which appears to have been accepted in Holland’s case. However, note that in Chohan’s case Hildyard J at p41 prefers a ‘looser fact-based approach’ than a more rigid requirement for a person to act on ‘equal-footing’ with other directors or de facto directors
22. Holland’s case. Lord Hope at p32 and Lord Walker at p108 and p121; Re Mea Corpn Ltd [2007] 1 BCLC, per Lewison J at p83. See also Ultraframe (UK) Ltd v Fielding (No 2) [2005] EWHC 1638 (Ch) Lewison J, Secretary of State for Trade and Industry v Hollier at p66 and Secretary of State for Trade and Industry v Tjolle and Holland’s case. In Australia: In the matter of Idyllic Solutions Pty Ltd- Australian Securities and Investment Commission v Hobbs [2012] NSWC 1276, contrasts with Re Hydrodam Corby Ltd [1994] 2 BCLC 180 (Hydrodam’s case). In Canada: Scavuzzo v The Queen [2006] 2 CTC 2429 at p32. In the United States: Osler Institute Inc v Forde F 832 (7th Cir 2003); and [1994] 2 BCLC 180
23. Chohan’s case. Hildyard J at p41. See also McKillen v Misland Cyprus Investments Ltd [2012] EWHC 521v (Ch)
24. Gemma Ltd v Davies. Jonathan Gaunt QC sitting as deputy judge of the High Court at p42. See also Nicholas Briggs and Hugh Sums, Guildhall Chambers, ‘Identifying De facto directors after Paycheck’, June 2011
25. Holland’s case, Lord Collins at p91
26. In the matter of Idyllic Solutions Pty Ltd- Australian Securities and Investment Commission v Hobbs
27. [1994] 2 BCLC 180 at p184
28. Holland’s case. Lord Clarke at p112, Lord Walker at p112 and p115 and Lord Hope at p29. Lord Saville adopted Lord Hopes’ and Lord Collins’ reasoning at p100
29. For example, to avoid pre-existing legal obligation as in Gilford Motor Company Ltd v Horne [1933] Ch 135 or where special circumstances indicate the company was formed as part of the defendant controllers’ impropriety to deceive others as Munby J indicated in Faiza Ben Hashem v Shayif [2008] EWHC 2380 (Fam). See also Dov Ohrenstein – Barrister, Radcliffe Chambers ‘Lifting the Corporate Veil’
30. Holland’s case, Lord Clarke, at p127
31. Holland’s case, Lord Clarke at p140 and Lord Walker at p119
32. Holland’s case, Lord Walker at p115, Lord Clarke at p139
33. Holland’s case, Lord Walker at p123
34. Holland’s case, Lord Hope at p20 and Lord Clarke at p96
35. Holland’s case, Lord Hope at p42 and Lord Collins at p54
36. Holland’s case, Lord Walker at p113 and Lord Clarke at p127
37. Holland’s case, Lord Collins at p96 and Lord Saville at p98
38. For example s250 Companies Act 2006 (UK), s131 Companies (Guernsey) Law 2008; article 1 Companies (Jersey) Law 1991; s2 Companies Act 1981 (Bermuda), s2 Business Companies Act 2004 (British Virgin Islands), s3(2) Corporate Service Provider Act 2012 (Bermuda); s126 Companies Act 1993 (New Zealand). Certain jurisdictions, such as the UK and Guernsey, include a separate definition for ‘shadow directors’. Other jurisdictions have an extended definition for ‘director’ to effectively incorporate the concept of ‘shadow director’. In this regard, see s201B(1) Corporations Law 2001 (Cth) (Australia) and s4(1)(2) Companies Act Cap 50 (Singapore)
39. [1988] 3 Ch 477
40. [1988] 3 Ch 477 at p489
41. Re Atlantic Computers plc. (ChD) Unreported. 15 June 1998 Timothy Lloyd J
42. Geoff Rankin, Michael Popkin, ‘Parent, Director and Related Exposures, the Erosion of Limited Liability- Extending the reach of Liquidators’ Allens Arthur Robinson, 4 August 2004, p5. See also Atlantic Computers plc
43. Rankin and Popkin
44. Re Lo-Line Electric Motors, Re Atlantic Computers, Secretary of State v Sullman [2008] EWHC 3179 (Ch), [2009] 1 BCLC 397 at 399 and Chohan’s case at p20
45. [2006] EWHC 1995 (Ch)(Nuttall’s case)
46. Gemma Ltd v Davies
47. Chohan’s case at p32-33
48. [2006] EWHC 1227 (Ch) (Primlake’s case)
49. John Mowbray QC, Lynton Tucker, Nicholas Le Poidevin QC, Edwin Simpson, James Brightwell, ‘Lewin on Trusts’ (18th edition) 2012 Sweet and Maxwell, at 42 to 47; and Thomas G, Hudson A, The Law of Trusts Oxford University Press at para 30.03
50. For example OFC trust legislation often does not directly define ‘trustee’ but essentially describes a ‘trustee’ within the definition of a ‘trust’ as a person that is determined to have possession, or be vested with, property of which the person is not personally the owner. See article 2 Trusts (Jersey) Law 1984, s1 Trusts (Guernsey) Law 2008 and s1 Trustee Act 1975 (Bermuda)
51. Generally, enforcers of non-charitable purpose trusts or the Attorney General or equivalent in a number of common-law jurisdictions can apply to the Court to seek remedies against trustees who fail to perform the trusts
52. This appears consistent with Chohat’s case. See also Heap Huat Rubber Company Sdn Bhd v Kong Choot Sian [2004] SGCA 12 and Singapore Steering Committee for Review of the Companies Act at p5
53. David Pollard, Freshfields, ‘Liability of Directors of a Corporate Trustee’ issue 9, October 1999, The Association of Corporate Trustees, The TACT Review; and G D Clewes, Barrister, ‘The Liability of Directors of a Corporate Trustee’ a paper delivered to the conference of the Society of Trust and Estate Practitioners on 28 September 2004
54. Jersey and Guernsey each had specific provisions in their trust legislation (now repealed) whereby CT’s directors were required to guarantee the CT’s liabilities that accrued in its trustee capacity. See also s197 Corporate Act (2001) Cth (Australia)
55. [1911] 1 Ch 681 (Bath’s case)
56. Bath’s case. Cozens-Hardy MR at p67. See also Eilson v Bury (1880) 5 QBD 518, HR v JAPT [1997], and Australian Securities Commission v A S Nominees [1996] ALR 297
57. HR v JAPT [1997] OPLR 123 in particular
58. [2008] EWHC 1006 (Ch)(Gregson’s case)
59. See Barnes v Addy (1874) LR 9 Ch App 244 and Royal Brunei Airlines v Tan [1995] 2 AC 378. The doctrine has been applied to directors of corporate trustees in Compaq Computer Australia Pty Ltd v Merry (1998) ALR 1 and Wakelin v Read [1998] PLR 337 and to directors of companies generally as, for example, in Starglade Properties Ltd v Roland Nash [2010] EWCA Civ 1314, 19
60. Twinsectra v Yardley, Lord Hoffman at p27
61. Royal Brunei Airlines v Tan required the defendant to have acted with ‘conspicuous impropriety’; and Compaq Computer Australia Pty Limited v Merry (1998) ALR 1
62. Royal Brunei Airlines v Tan
63. Agip (Africa) Limited v Jackson [1991] Ch 547
64. Yazhou Travel Investment Co Ltd v Bateson [2004] HKCFI 258
65. [2001] 3 WLR 1
66. Williams v Natural Health Foods Ltd and Anor, Lord Waite at p154D-F. Note Lord Waite, along with Lord Hirst, ultimately held that the director was personally liable which was overturned on appeal
67. [1998] 2 All ER 577
68. [1998] 2 All ER 577 per Lord Steyn
69. For example, in Canada, see Edgeworth Construction Limited v ND Lea and Associates Ltd [1993] 3 SCR 206; in New Zealand, see Trevor Ivory Ltd v Anderson [1992] 2 N.Z.L.R 517, in Northern Ireland, see Curran v Northern Ireland Co-Ownership Housing Association (1986) 8 NIJB 1; in Australia in O’Brien v Dawson (1942) 66 CLR 18 and Root Control Technologies Pty Ltd (2000) ALR 231
70. Merrett’s case, Lord May p41
71. The purchaser had limited means and was purchasing a modestly valued property and for those reasons it was considered reasonable for the employee to rely on the report and not obtain an independent report. Note, the employee was uninsured and his employer’s trustee in bankruptcy had disclaimed the insurance policy which may have responded to the claim
72. Refer to footnote 71
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