Directors beware: Supreme Court judgment on section 423 of the Insolvency Act 1986 captures companies

This article originally featured in the Corporate Rescue and Insolvency journal published by LexisNexis.

Can a director defeat their creditors by using a company they control to transfer company assets for less than they are worth, thereby reducing the value of their shares? The answer, until now, has been uncertain.

However, the recent Supreme Court decision in El-Husseiny v Invest Bank (UKSC 2023/0080) has provided important clarification on the interpretation of section 423 of the Insolvency Act 1986, which relates to transactions entered into at an undervalue. This provision enables courts to grant relief where a debtor has entered into a transaction that defrauds creditors by putting assets beyond their reach or otherwise prejudicing their position. Such transactions typically involve a debtor receiving either no consideration or less for the transfer of an asset. The decision widens the scope of s423 to apply to assets which the debtor does not personally own.

Key takeaways

• The Supreme Court confirms a broad interpretation of the words “entered into” and “transaction” under section 423 of the Insolvency Act.
• Restricting section 423 solely to transactions involving property owned directly by the debtor is not the correct approach and would have the effect of limiting the statutory provisions.
• The judgment has the potential effect of holding directors liable for procuring the company to enter into a transaction at an undervalue.
• The Supreme Court has expanded the test to section 238(4) (which enables office-holders to claw back assets in the context of corporate insolvency) and section 339(3) (which enables trustees in bankruptcy to claw back assets in the context of individual bankruptcy) of the Insolvency Act.

Background to the case

The underlying proceedings arose from Invest Bank PSC’s claim to enforce UAE judgments for c.£20m in England against Mr Ahmad El-Husseini and related claims against his family and others in respect of various assets that had been transferred to them by Mr El-Husseini. The bank alleged that it was entitled to recover the assets under s.423.

In the High Court, Andrew Baker J held, in principle, that a debtor could cause a company, whose shares they owned, to transfer assets at an undervalue, even if they had no direct beneficial interest in the transferred assets. The Court of Appeal upheld this ruling, although permission to appeal to the Supreme Court was granted.

One of the key issues which the Supreme Court was asked to examine was whether Mr El-Husseini arranged for a property in Central London, owned by Marquee Limited (of which he was the sole shareholder), to be transferred to his son for no consideration, thereby placing the asset beyond the reach of creditors, including Invest Bank PSC. The transaction reduced the assets available to Marquee Limited, consequently diminishing the value of the company’s shares.

The bank’s claims against those who received the assets were dismissed by Calver J in their entirety on 21 November 2024 (Invest Bank PSC v El-Husseini [2024] EWHC 2976 (Comm)) because the bank had failed to establish that Mr El-Husseini had acted for the purpose of prejudicing his creditors’ interests, so that the purpose requirement in s.423(3) was not satisfied. The bank has not appealed against Calver J’s decision and is now out of time to do so. Therefore, by the time the Supreme Court handed down judgment, the appeal had become academic. However, the Supreme Court decided to give judgment because of the general importance of the issue.

Decision of the Supreme Court

The Supreme Court considered whether an individual can “enter into” a transaction on behalf of a company and whether a “transaction” under section 423 can involve assets not directly owned by the debtor.

Section 423 of the Insolvency Act does not explicitly state that the property disposed of must be beneficially owned by the debtor. The provision uses “very broad language and does not appear to require the transfer of any assets, let alone assets of which the debtor is the beneficial owner.” Therefore, the court found that there can be a transaction at an undervalue even though the assets were not beneficially owned by the debtor.

Equally, the court found that the word “transaction” is defined broadly and as such a broad interpretation should be applied. The Supreme Court held that a “transaction” for the purposes of section 423 is not confined to dealings with assets beneficially owned by the debtor but extends more broadly to the type of transactions undertaken. The court reasoned that restricting section 423 solely to transactions involving property owned directly by the debtor would require an implied limitation not present in the statutory wording. Furthermore, such a limitation would undermine the protective purpose of the provision.

Finally, the court provided a warning to those seeking to avoid the provisions of section 423. The court held that companies should not be used as a vehicle in order to put assets out of the reach of creditors or otherwise prejudice the interests of a creditor.

[67] “although section 423 finds itself in the same Act as those provisions which are concerned with bankruptcy or corporate insolvency, its scope is wider. There is no need for there to be any insolvency. The unfortunate reality of life is that even very wealthy debtors are sometimes unwilling, rather than unable, to pay their debts. They may well make strenuous efforts to use various instruments, including a limited company, for the purpose of putting their assets beyond the reach of a person who is making, or may make, a claim against them; or otherwise prejudicing the interests of such a person.”

What are the implications for directors?

The judgment means that should an asset such as a property (as in this case), be disposed of by way of a transaction at an undervalue, the debtor cannot rely on the fact he continues to hold his shares in the company as an answer to the claim. The action in procuring the transaction at an undervalue by the debtor director/shareholder has the effect of reducing the value of those shares, which is sufficient for the debtor to be held liable.

While the El-Husseiny appeal does not explicitly address directors’ duties, it has significant implications for directors in relation to their role in company transactions, in managing company assets and transactions. If a director facilitates or authorises a transaction that results in the company transferring assets at an undervalue, particularly where the company itself does not beneficially own those assets, they may be exposed to claims under section 423. This judgment reinforces the necessity for directors to ensure that transactions are conducted for fair value and not to the detriment of creditors.

Additionally, the decision highlights the importance of due diligence in corporate transactions, particularly in light of the creditor duty established in BTI 2014 LLC v Sequana SA and others [2022] UKSC 25. The creditor duty arises when a company is insolvent, on the brink of insolvency, or where insolvent liquidation or administration is probable. Directors must therefore carefully assess the value and consideration received in any asset transfers, even before formal insolvency proceedings commence, so as not to fall foul of this provision.

The Supreme Court’s ruling in El-Husseiny strengthens creditor protection by preventing debtors from circumventing section 423 through indirect asset transfers. Directors must therefore remain vigilant in scrutinising transactions to ensure compliance with statutory obligations and avoid potential liability under the Insolvency Act.

Further caution

It is not only “transactions at an undervalue” under section 423 that directors will need to take heed of, as the Supreme Court has expanded the test to section 238(4) (which enables office-holders to claw back assets in the context of corporate insolvency) and section 339(3) (which enables trustees in bankruptcy to claw back assets in the context of individual bankruptcy).

This could mean that where a director/shareholder arranges for their company to offer a corporate guarantee to support a group or subsidiary company, that guarantee could be challenged under section 339 if the director/shareholder later becomes bankrupt within the relevant period (which could be up to 5 years). Other flags could include paying dividends or making ex gratia payments to employees, which might be at risk of being challenged.

Although the Supreme Court’s decision in El-Husseiny primarily prevents debtors from using corporate structures to shield themselves from their creditors, it also has implications for directors regarding their responsibilities in company transactions, as well as in managing company assets and dealings. Directors would do well to proceed with caution.

About the authors

Juliet Schalker leads Debenhams Ottaway’s dispute resolution and insolvency team. She regularly handles complex high value litigation in specialist divisions of the High Court, Court of Appeal and Supreme Court, often acting against or alongside major UK or international firms. She acted for the winning El-Husseiny family defendants at trial against Invest Bank PSC.

Helen Rainford is commercial litigator at Debenhams Ottaway who helps clients on a variety of often complex and high value disputes including asset recovery, civil fraud, and defamation. She focusses on providing effective and practical legal solutions that achieves the best possible outcomes for her clients.