Global Corporate Ltd v Hale

This appeal concerns the status of various payments, amounting in total to £23,511, which the Respondent, Mr Hale, received between 24 June 2014 and 26 October 2015 from a company called Powerstation UK Ltd (“the Company”) of which at the time he was both a director and shareholder.

On 25 November 2015 the company was placed into creditors’ voluntary liquidation. Its estimated statement of affairs indicated that there was a deficiency of some £173,594.99. The Company’s internal documentation indicated that the payments were made as dividends. The liquidators took the view that as such they had been paid unlawfully because at the relevant time the Company, according to its last annual accounts, had insufficient distributable reserves of profits out of which the dividends could have been paid in conformity with s.830 of the Companies Act 2006 (“the CA 2006”). Accordingly they wrote to Mr Hale on 3 August 2016 requiring repayment of the £23,511.

No repayment was made. On 25 August 2016 the liquidators assigned their rights to receive the monies either as unlawful dividends or as transactions at an undervalue to the appellant, Global Corporate Limited (“Global”), and on 20 September 2016 Global issued an application against Mr Hale seeking declarations that the £23,511 was recoverable either as unlawfully paid dividends; or as a transaction at an undervalue and/or a preference; or on the basis that the payments were made in breach of Mr Hale’s fiduciary duties to the Company as a director and therefore amounted to misfeasance. The application also sought repayment of the monies.

The application was supported by a witness statement from Mr Michael Hartley of Global setting out from the available information what he knew of the circumstances in which the payments had been made. This included a schedule showing that on 24 or 26 of each month beginning on 24 January 2014 and ending on 26 October 2015 Mr Hale received a payment of £1,383. Each of the payments was recorded as an “interim dividend” in respect of the Company’s current financial year “at the rate of £69.15 per share on the ordinary shares registered in your name” in a “dividend tax voucher” prepared by the Company’s accountants and signed by Mr Hale. These documents were presented to HMRC and Mr Hale and his co-director and shareholder, Mr Richard Benton, were assessed to tax accordingly.

In his witness statement Mr Hartley said that the Company had been balance sheet insolvent since 2009 and that its financial position had deteriorated further during 2014 and 2015. At the time the disputed payments were made the last annual accounts for the year ended April 2014 indicated that there were insufficient distributable reserves to support the payment of the £23,511 as dividends and the payments to Mr Hale and Mr Benton had increased the losses to the Company. The notes to the accounts stated that the Company continued as a going concern only with the support of its directors.

Mr Hale has made two witness statements in the proceedings. In the first (dated 9 December 2016) he explained that the Company operated a vehicle tuning centre which he had previously run in partnership with Mr Benton. They had worked long hours in the business for many years and had never sought to take excessive remuneration from it. The Company had been badly affected by the global financial crisis and subsequent recession to the point where HMRC was seeking personal guarantees from the directors in respect of its future tax liabilities. At this point he and Mr Benton decided that they could no longer support the Company financially and that there was no alternative to liquidation.

In relation to the claim for repayment of the £23,511, Mr Hale accepted that the Company was balance sheet insolvent but denied that he had ever caused it to trade insolvently. Tax and other liabilities were discharged out of trading receipts and profits. As regards the dividends, he denied that they had been paid unlawfully:

In a second witness dated 9 June 2017 Mr Hale again addressed the allegation that the Company may have traded insolvently and made the point that from 2012 onwards an increase in turnover and gross profit had reduced the debits on the balance sheet. But there is nothing further of substance about the basis on which the dividends were paid. What he says (in [4]) is that the laws relied on by Global in the present proceedings were not intended for ordinary owner directors “who took dividends on the advice of their accountant in order to more efficiently manage their income”.

The Company’s accountants did not provide a witness statement for use in the proceedings but they did write a letter dated 27 July 2017 which was relied on by Mr Hale as part of some submissions made after the trial. The letter says that the practice of paying a low salary and dividends is commonplace in small companies and that “the occasional reversal of such is just restructured management adjustments”. The letter includes a statement that the directors did not “knowingly receive dividend payments” that they considered to be unlawful and that the dividend payments made after April 2014 could be justified by reference to interim accounts. It is now common ground between the parties that there were no such interim accounts during the relevant period.

The hearing of Global’s application took place before HH Judge Paul Matthews (sitting as a judge of the High Court) on 6 July 2017. Mr Hale appeared in person and gave evidence. The judge also had the evidence filed on behalf of Global which included the Company accounts and the dividend vouchers I described earlier. Mr Hale had also prepared a skeleton argument addressing the allegations that the Company may have traded whilst insolvent and that the dividend payments amounted to misfeasance. For reasons which I am about to come to, it is not necessary to refer to the detail of those submissions.

The judge was faced with a number of issues to decide. One of these was Global’s title to sue. The deed of assignment referred in terms (in Recital (C)) to the claims to recover unlawful dividends and/or money paid under transactions at an undervalue and the judge accepted that it was effective to assign to Global the Company’s rights in respect of those claims. But he held that the deed was not effective to assign the claim under s.239 of the Insolvency Act 1986 (“IA 1986”) to recover the money as a preference and that the claim under s.238 IA 1986 also failed because the £23,511 was not comprised of payments at an undervalue. On the evidence the payments were made in return for services provided by Mr Hale to the Company during the period in question.

In relation to the misfeasance claim, the judge also questioned whether Global had title to sue. But he dismissed the claim on the basis that even if Mr Hale had an obligation to repay the money because it had not properly been paid to him, he had a maintainable claim to an equivalent sum as a quantum meruit for the services which he had provided to the Company and that would provide a legal justification for the payments which had been made to him. The fact that the dividends had been paid essentially as a way of saving tax on what would otherwise have been his salary as a director and employee meant that the decision to authorise the payments could not be characterised as misfeasance on his part.

There is no appeal by Global against the judge’s dismissal of the claims based on ss.238 and 239 IA 1986 or against the claim under s.212 IA 1986 based on alleged misfeasance. It is not therefore necessary for me to say any more about the judge’s treatment of those claims. There is an issue as to whether a quantum meruit claim (even if established) would provide an effective defence to a claim to recover unlawfully paid dividends now that the Company is in liquidation but I will come to that a little later.

The present appeal concerns the judge’s dismissal of the claim to recover the £23,511 as unlawful dividends. The relevant statutory provisions are contained in ss.830, 836 and 847 CA 2006 and provide as follows:-

The judge accepted that because the Company had no profits which were available for distribution within the provisions of s.830(2) then the payment of the £23,511 to Mr Hale by way of dividends would be unlawful. Accordingly the money was repayable under ss.847(2) and under the general law: see s.847(3). But he rejected the claim on two alternative grounds. The first was that the decision to make the disputed payments as dividends was no more than what he described as a decision in principle and was subject to confirmation by the Company’s accountant at the end of the financial year once the accountant had ascertained whether there were sufficient distributable reserves out of which the payments could lawfully be made as dividends. The second was that, properly analysed, there had been no valid decision at all to pay the monies as dividends at the time when the monies were paid so that, the judge reasoned, ss.830 and 847 CA 2006 had no application to the £23,511.

I have found some of the judge’s reasoning a little difficult to follow but, before I come to it in more detail, it is important to say something about the evidence on which these findings was based. As I have already mentioned, it was not originally Mr Hale’s case that the £23,511 had not been paid to him as dividends. His case was that the payments he received were structured in part as dividends rather than remuneration in order to minimise the amount of tax payable on the receipts. As set out in [10] of his first witness statement, he accepted that the monies had been paid as dividends but denied that they had been paid unlawfully. There had, he contended, always been sufficient profits out of which the dividends could be paid.

Whatever may have been Mr Hale’s belief at the time of the payments, it was apparent by the hearing that the dividend payments were unlawful distributions because the only relevant accounts for the purposes of s.836(1) CA 2006 were the accounts for the year ended April 2014. There had been no interim accounts during 2014/2015 and whatever may have been the practice in previous years the Company’s accountants had taken no steps to “reverse” or re-characterise the relevant dividend payments before the Company was placed into liquidation.

In his oral evidence Mr Hale, under cross-examination by Mr McDonald, accepted on a number of occasions that, as stated in his witness statement, he had received £1,383 per month “as a dividend” and that matters were arranged in this way for tax reasons. He also denied that he knew that the Company had insufficient distributable reserves from which the dividends could lawfully be paid. But at the end of his cross-examination by Mr McDonald the judge proceeded to ask Mr Hale a series of questions designed to examine the basis on which the dividends had been declared having regard to the possibility that after the year end the accountants might take steps to “reverse” that process. Most of the questions are highly leading and even when Mr Hale responded negatively to the questions the judge persisted. So, by way of example:

It goes without saying that a trial judge is perfectly entitled to ask a party or other witness to clarify answers which he had given during his evidence. The judge was faced in this case with the difficulty that Mr Hale was acting in person. But his evidence both in chief and under cross-examination was that the £23,511 had been paid by way of dividend, although in some years the accountants would subsequently treat the payments as taxable remuneration if it turned out that the Company had insufficient reserves out of which the dividends could lawfully be paid. It was not part of Mr Hale’s case that the decision to pay the dividends was provisional or so conditional as not to be a decision at all and no such suggestion was made by Mr Hale either in chief or in cross-examination. The judge’s ultimate finding was based upon a new line of cross-examination introduced by the judge himself for which there was no existing evidential basis. None of this, in my view, is at all satisfactory although, for reasons which I am about to come to, the evidence it produced is also in my view irrelevant.

In his judgment the judge accepted that according to the 2014 accounts there were no profits out of which a distribution could lawfully be made. The payment of dividends was therefore unlawful. But he continued:

Having referred to the lack of any evidence from the accountants and the inability of Global’s witnesses to cast any light on the arrangements beyond what is recorded in the documents, the judge continued:

I have two difficulties with this analysis. The first is an evidential one. Although under examination by the judge Mr Hale did accept in the passages quoted above that the decision to declare the dividends was not, in the judge’s words, definitive, when one looks at this in the context of his evidence as a whole this means no more than that it was open to the accountants to recommend and arrange a different treatment for the payments if it subsequently transpired that they could not lawfully be paid as dividends. Whatever may be the legalities of such a process it does not mean that the payments, when made, were not declared as dividends or, as the judge put it, were not declared definitively or at all. On the contrary, the payments were expressly declared by the directors as interim dividends; were declared to HMRC as such; and were taxed accordingly. Their payment therefore had real legal consequences. In some previous years the accountants had advised that the dividend payments be treated as salary but, in relation to the payments we are concerned with, that never happened. The accountants, according to their letter, believed that the payments were lawful, and no steps were taken to adjust the arrangements retrospectively before the Company went into liquidation.

My second difficulty with the judge’s analysis is that the payments were clearly distributions within the meaning of s.830 CA 2006 when they were made and that is the time when their legality must be tested. There was no evidence that Mr Hale and his co-director had service contracts to which these particular payments were attributable and they clearly chose to pay and receive the money to themselves as shareholders and not as remuneration for past services which would have been taxable as income under Schedule E. At the point of payment the monies were therefore gratuitous distributions from the Company’s assets which had the effect of increasing the deficit on its balance sheet. Section 830 is directed to distributions as and when they are made (“may only make”) and it is immaterial that a subsequent realisation that the distributions should not have been made would prompt their being treated as remuneration. That cannot cure the illegality of the original payment. The most it can do is to allow the monies to be notionally repaid and then re-applied in a way which does not contravene the provisions of s.830 and is otherwise a lawful application of the assets of the Company.

The judge concentrated on the intention or state of mind of the directors when authorising the disputed payments as dividends rather than on the payments themselves. Had he focussed instead on whether the payments when made were lawful distributions of the company’s assets there could only have been one answer.

One of the issues considered by the judge in the context of the misfeasance claim was whether a potential quantum meruit claim by the directors could provide a defence and set-off against a claim by the Company for the return of the £23,511. There are difficulties about relying on a quantum meruit claim for this purpose even as an answer to a claim by the Company against the directors based on misfeasance or breach of duty. In Guinness Plc v Saunders [1990] 2 AC 663 the House of Lords held that the law would not imply a contract for remuneration when such could only be agreed to under the articles of association by an appropriate resolution of the board. But, more fundamentally, whatever restrictions the articles may impose, once the Company is in liquidation then a quantum meruit claim faces the difficulty of being an unliquidated claim for compensation for which Mr Hale will have to prove in the liquidation. Unless the payments themselves could be re-characterised so as to be treated as payments for services lawfully made by the company prior to the liquidation then it is difficult to see how a claim for a quantum meruit can provide any sort of defence to Global’s claim for the return of the £23,511 as an unlawful distribution. Mr Hayhoe accepted that this would not be possible in this case and I need not therefore pursue the matter further in this judgment.

For these reasons I would allow the appeal.

I agree both with Patten LJ’s conclusions and with his observations in relation to the approach which the judge adopted in relation to Mr Hale’s evidence. A trial judge is perfectly entitled to ask a party or other witness to clarify the answers he or she has given in evidence and it is often important to do so. Where a party is unrepresented, as a matter of fairness both to the unrepresented party and the other party or parties to the litigation, it may also be both appropriate and necessary to ask questions in order fully to understand the unrepresented party’s case as pleaded, their submissions and their evidence. In doing so, the judge should take care not to ask leading questions of the unrepresented party in his capacity as a witness. It may even be necessary to ask questions of other witnesses about matters central to the issues in the case which have not been posed by the unrepresented party in cross-examination. Such questioning should be approached with caution and limited to essential matters. In this case, as Patten LJ has pointed out, the judge’s finding that no definitive decisions were made about declaring dividends did not form part of Mr Hale’s case at all and was based upon the judge’s own line of cross examination for which there was no existing evidential basis. It is very important that whilst seeking to clarify the issues and the evidence and to be fair to all parties the trial judge does not stray from the case as pleaded and the evidence before the court.

I agree that, for the reasons given by Patten LJ, this appeal must be allowed. I would only wish to add that, in my view, the nature and extent of the judge’s questions of Mr Hale at the end of his cross-examination (as recorded at [18] above) was inappropriate. It is always difficult when one party is represented and the other is not, and the judge was required to maintain a fair balance so as to ensure a proper hearing of Mr Hale’s case. But the judge’s use of long leading questions, in which the answer he considered to be correct was made all too obvious to Mr Hale, on an issue which had never before even been raised, went much too far in attempting to counter any perceived imbalance or inequality of arms.