What Is Director Liability?
Director liability refers to the legal responsibilities company directors bear personally — and the circumstances in which the protection of limited liability can be lost.
Key Takeaways
- Directors have statutory duties under the Companies Act 2006, including acting in the company's best interests.
- Limited liability protects shareholders, not directors — directors can be personally liable in specific circumstances.
- Wrongful trading and fraudulent trading are two routes through which directors can face personal liability.
- Directors should ensure they have adequate directors' and officers' (D&O) insurance.
Directors' duties under the Companies Act 2006
Every director of a UK limited company has seven statutory duties set out in the Companies Act 2006. The most relevant for SME founders are: the duty to act in accordance with the company's constitution, the duty to promote the success of the company for the benefit of its members as a whole, the duty to exercise independent judgement, the duty to avoid conflicts of interest, and the duty not to accept benefits from third parties. These duties are owed to the company — not to individual shareholders or creditors — and breach of them can result in personal liability. Directors should document significant decisions (board minutes, written resolutions) to demonstrate they have fulfilled these duties.
When limited liability does not protect you
The principle of limited liability means that shareholders are not personally responsible for the company's debts beyond their investment. However, directors can be held personally liable in specific circumstances. Personally guaranteeing company debts — common when SMEs take out bank loans or commercial leases — removes the protection of limited liability for those specific obligations. Fraudulent trading (knowingly defrauding creditors) is a criminal offence. Wrongful trading (continuing to trade when you knew or ought to have known the company could not avoid insolvent liquidation) can result in a court order requiring a director to contribute personally to the company's assets. Tax fraud — for example, submitting false VAT or payroll returns — also creates personal liability.
Wrongful trading in practice
Wrongful trading under the Insolvency Act 1986 is particularly relevant for directors of SMEs facing financial difficulty. If a company enters insolvent liquidation, the liquidator can bring a claim against directors who continued to trade after the point at which they knew (or a reasonably diligent director ought to have known) that insolvent liquidation was inevitable. The director's defence is to show they took every step to minimise the potential loss to creditors. In practice, this means: taking professional advice early when the business is in financial difficulty, documenting board decisions, considering whether to seek a formal insolvency procedure, and not making payments to connected parties (such as your own director's loan account) at the expense of trade creditors.
Protecting yourself as a director
There are several practical steps SME directors can take to manage their liability exposure. First, maintain proper company records — board minutes, financial accounts, and statutory filings. Second, keep personal and company finances strictly separate; do not use company funds for personal expenditure. Third, take legal and financial advice early if the company faces serious financial difficulty — do not wait until insolvency is certain. Fourth, review your directors' and officers' (D&O) insurance policy to ensure it covers you for claims arising from decisions you make as a director. D&O insurance does not cover fraud but will defend against many claims of breach of duty or mismanagement. Finally, ensure your Companies House filings are up to date — late filing of accounts or confirmation statements can result in personal fines.