A guide for directors on what really happens in insolvency—and how to protect yourself.
In closely held or family-run businesses, it’s common for directors and shareholders to move money in and out of the company—whether as loans, drawings, or transactions with related entities. These practices often feel routine, but in an insolvency scenario, they can become the focus of intense scrutiny—and even personal liability.
Understanding how these transactions are treated when a business fails is essential for any company director. Here’s what you need to know.
- Director Loans: Not as Simple as They Seem
Directors often treat loan accounts as flexible cash flow tools—drawing funds when needed, or injecting capital during tough periods. But unless documented properly and kept within clear legal boundaries, director loans can become a problem.
In insolvency, the liquidator or administrator will review any money taken out by directors. If there is an overdrawn shareholder current account (i.e., the director owes money back to the company), the liquidator is obligated to pursue repayment—even from a director who has personally guaranteed company debts.
Key risk: Overdrawn loan accounts become recoverable debts. Directors can be personally pursued, even if they injected funds at other times.
- Related-Party Transactions: High Risk, High Scrutiny
Transactions with related parties—such as family members, trusts, or other businesses owned by the same people—face heightened scrutiny in insolvency proceedings. These include:
- Loans to or from related entities
- Asset transfers to trusts or family members
- Repayment of debts to directors or related parties ahead of others
- Intercompany charges or management fees
Liquidators examine whether these transactions were:
- At market value
- Genuinely necessary
- Preferential or insolvent at the time they occurred
Key risk: Related-party transactions can be set aside or clawed back if they were made when the company was insolvent or if they unfairly preferred insiders.
- Drawings vs. Salary: Understand the Difference
Many small business owners draw money from the company without a formal salary. However, in liquidation, informal drawings that aren’t backed by payroll records or tax deductions may be reclassified as loans, not wages.
This matters because:
- Salaries are subject to PAYE, which takes priority in insolvency
- Loans must be repaid in full
- Directors may lose any priority claims they thought they had
Key risk: Drawings treated as loans mean the director becomes a debtor to the company, not a creditor.
- How Liquidators Investigate
Licensed insolvency practitioners are required to act in the interests of all creditors. That means:
- Examining bank statements, accounting records, and emails
- Identifying transactions with “associated persons” under the Companies Act
- Assessing whether funds or assets can be recovered for the benefit of creditors
Even well-meaning actions—like repaying a director loan to help keep the business going—can be reversed if they were made in breach of insolvency law.
- How to Protect Yourself
To reduce risk and exposure as a director:
✅ Document all loans and repayments with clear terms, interest rates, and repayment schedules
✅ Avoid informal drawings—use a proper payroll system or clearly document shareholder loans
✅ Don’t repay insiders ahead of trade creditors when cash is tight
✅ Get legal and financial advice before transferring assets or intercompany funds
✅ Engage with a licensed insolvency practitioner early if financial pressure is mounting
Final Thought: Intent Doesn’t Override the Law
Many directors fall into trouble not through fraud, but through informality. Good intentions, poor documentation, and a desire to “keep the business afloat” can all come back to bite in an insolvency.
If your company is facing financial strain, or your books involve related-party transactions or director loans, now is the time to seek professional advice.
Talk to Us Before Trouble Starts
We work with directors to help them understand the legal and financial implications of their actions—before or during insolvency. A confidential, no-obligation conversation with one of our licensed insolvency practitioners could be the best decision you make to protect your position.