The Court of Appeal has considered the matter of avoidance of directors' personal liability under ss216 and 217 of the Insolvency Act 1986 and the Insolvency Rules 1986. (See Churchill and Another v First Independent Factors and Finance Ltd (2007), Times January 11.)

The purpose of these provisions is to prevent a practice whereby company directors may contrive to mislead the public by setting up a phoenix company, using a company name that is the same as or similar to one of a failed company that has recently gone into insolvent liquidation and where they were also directors.

To prevent this, s216 forbids a director or shadow director of the failed company from being a director or shadow director of a company with the same or similar name for five years. If these rules are infringed, those doing so commit a criminal offence and, under s217 of the Insolvency Act 1986, become personally liable jointly and severally with the company and others involved for the debts of the company incurred at any time when they were involved in its management. If they manage through nominees who are aware of the circumstances, the nominees are also jointly and severally liable as above.

This liability can be avoided by obtaining leave of the court to manage the company under s216(3). There is an exception to this requirement addressed in rule 4.228 of the Insolvency Rules 1986. This exception applies where the second company has acquired the insolvent company under arrangements with an insolvency practitioner acting in the insolvency. Where this is so, the successor company may give notice to the insolvent company's creditors within 28 days of completing the acquisition arrangements. In broad terms, the notice explains what has happened and gives the successor company's name and the names of persons who are to be directors or shadow directors who would otherwise be barred by s216.

If the procedures in the rules are properly carried out, the old management can carry on trading with the successor company even though they have not obtained leave of the court.

The point brought before the Court of Appeal was whether the rule 4.228 notice must be served before the directors become involved in the management of the new company, or whether it can be retrospective.

The court ruled that it must be prospective, its purpose being to alert the creditors of the company in liquidation to the fact that persons involved in its management were also to be involved in the management of the successor company. The notice must be served before their involvement in management.

The court ruled the retrospective notice was invalid and the directors lost their appeal.