In the course of a company’s operations, it may happen that the business runs into payment difficulties. Customer payments fail to arrive, supplier debts grow, tax debt builds up, or a creditor sends a payment notice, an order for payment, or even a liquidation petition.
One of the most common questions managing directors ask at that point is whether they can be liable for the company’s debts with their own personal assets.
The short answer is: as a general rule the company itself is liable for its debts, not automatically the managing director. This does not mean, however, that the managing director cannot have personal liability. In certain cases, particularly in a situation of imminent insolvency, the executive officer’s decisions must be made taking into account not only the owners’ interests but also the interests of the creditors.
The General Rule: A Limited Company’s Debt Is Not the Managing Director’s Personal Debt
One of the fundamental features of a limited liability company is that the company is liable for its obligations with its own assets. This means that if a limited company has a debt, the creditor may as a rule enforce its claim against the company.
The mere fact that a company has debts therefore does not mean that the managing director must pay them out of their own pocket. A managing director does not automatically become liable as a guarantor or debtor simply because they ran the company.
Under the Hungarian Civil Code, an executive officer is liable to the legal entity for damage caused to it in the course of their management activity. For damage caused to third parties, the legal entity is liable as a general rule, and the executive officer may be liable jointly and severally with the legal entity only if they caused the damage intentionally.
It is therefore important to distinguish between:
- the company’s debt;
- the managing director’s liability towards the company;
- the managing director’s liability towards creditors;
- and the managing director’s possible criminal or tax liability.
These are not the same, and their conditions are not the same either.
When Can the Managing Director’s Personal Liability Nevertheless Arise?
The managing director’s personal liability typically comes to the fore when the company is already struggling with payment difficulties, creditors’ claims are not being satisfied, and the question arises whether the managing director failed to act with the required care in relation to the company’s assets, operations or decisions.
It can be particularly risky, for example, if the managing director:
- withdraws the company’s assets without justification or transfers them to another party;
- gives unjustified preference to certain creditors;
- takes on new obligations when there is visibly no realistic cover for them;
- fails to keep the company’s records and accounts in order;
- does not provide truthful information about the company’s financial position;
- fails to take timely steps to address the insolvency situation;
- continues operations while disregarding creditors’ interests.
An executive officer’s liability towards creditors may arise primarily where the company enters a situation of imminent insolvency and the managing director subsequently fails to act with regard to the creditors’ interests. According to case law, establishing liability requires more than the mere fact of insolvency: it must also be examined how the managing director’s specific conduct or omission affected the satisfaction of creditors’ claims.
What Does a Situation of Imminent Insolvency Mean?
A situation threatening insolvency does not necessarily mean that liquidation proceedings have already been started against the company. The problem often begins earlier than that.
Such a situation may exist, for example, where it is already foreseeable to the managing director that the company will not be able to meet its debts as they fall due. This may be a persistent liquidity problem, significant overdue debt, enforcement, a tax authority collection order, mass supplier claims, or a financial position in which the company’s operations can no longer be financed safely.
From that point onwards, the managing director’s room for manoeuvre narrows. It is no longer enough to consider what would be advantageous for the owner or for the company’s short-term operations. It must also be taken into account that decisions should not unjustifiably worsen creditors’ prospects of being paid.
In practice this means that in such a situation a managing director must proceed with particular care as regards:
- which payments they make;
- which new contracts they conclude;
- which assets they sell;
- which obligations they take on;
- what information they give to creditors, partners and members;
- and with what documents they can later justify the reasons for their decisions.
What Mistakes Can Lead to Personal Liability?
A managing director’s liability always depends on the specific circumstances of the case. There is no automatic rule that a managing director is certainly liable because a business failed. Enterprise involves risk, and a poor business decision or a market loss does not in itself necessarily amount to unlawful conduct by the managing director.
There are, however, situations that are distinctly risky.
1. Asset Stripping
One of the most serious cases is where the managing director withdraws the assets of a company in payment difficulty, transfers them, moves them into a related undertaking, or concludes a transaction as a result of which creditors’ prospects of payment are reduced.
This may be the case, for example, where the company’s valuable assets are sold below market price, where stock or machinery is taken over by another company without genuine consideration, or where the company’s revenues no longer flow to the company but to another interest.
2. Unjustified Preference of Certain Creditors
In a situation of imminent insolvency it can be particularly problematic if the managing director arbitrarily selects certain creditors and pays them in full while other creditors’ claims remain unsatisfied.
Of course, not every selective payment is unlawful. There may be payments that are necessary to maintain operations, preserve assets or avoid greater loss. The question is always whether the managing director can later justify objectively why the particular decision was necessary.
3. Taking On New Obligations Without Cover
If the company is visibly already unable to meet its earlier debts, it can be particularly risky to conclude new contracts, order further goods, use services or take out loans when there is no realistic cover for performance.
In such cases the question may arise whether the managing director acted fairly towards the partner, if at the time of contracting they already knew or should have known that the company would not be able to pay.
4. Missing Records, Accounts and Financial Statements
Disorderly accounts, missing records, undelivered financial statements or company documents that have not been handed over are not merely an administrative problem. They may also carry weight later when assessing the managing director’s liability.
In an insolvency situation it is particularly important for the managing director that the company’s business decisions, financial position and contractual relationships can be reconstructed afterwards.
5. Late Information to Members or Owners
If the company’s financial position deteriorates significantly, the managing director may also have obligations to inform the owners and to take action. In some cases a members’ meeting decision, capital measures, reorganisation, consideration of bankruptcy proceedings or another legal step may be required.
It has also appeared in the case law of the Hungarian Curia that, when examining executive officer liability, it may be relevant whether the managing director took the necessary steps arising from company law rules, such as convening the members’ meeting.
Is the Managing Director Liable If the Company Goes into Liquidation?
The ordering of liquidation does not in itself mean that the managing director is personally liable for the company’s debts.
Liquidation proceedings are, however, a situation in which creditors, the liquidator or other interested parties may examine how the executive officer acted previously. If it appears that, after the situation of imminent insolvency arose, the managing director did not carry out their duties with regard to creditors’ interests, a liability claim may also be brought.
Under the Hungarian Bankruptcy Act, an executive officer’s liability may arise in particular where, as a result of the executive’s conduct, the company’s assets decreased or the satisfaction of creditors’ claims was frustrated for another reason. According to a decision of the Curia, establishing liability under Section 33/A of the Bankruptcy Act requires examining the situation of imminent insolvency, the disregard of creditors’ interests, and how the executive’s action or omission may have frustrated the satisfaction of creditors’ claims.
The managing director of a company affected by liquidation must therefore pay attention not only to what debts the company has, but also to ensuring that their earlier decisions are properly documented and justifiable.
What Can the Managing Director Do If the Company Runs into Payment Difficulty?
The most important thing is that the managing director should not wait until the situation becomes unmanageable. The earlier a legal and financial review takes place, the more options remain available.
In the event of payment difficulty, it is worth examining at least the following:
- exactly what debts exist;
- which claims are overdue, disputed or undisputed;
- whether there is a realistic possibility of instalment payment or settlement;
- whether it is justified to respond to a payment notice or the threat of liquidation;
- whether bankruptcy proceedings, reorganisation or another crisis management step is needed;
- which contracts must be terminated, amended or renegotiated;
- which management decisions must be documented in writing;
- what risk continued operation may involve.
The worst approach is generally where the managing director does not respond to documents, does not accept letters, fails to dispute the claim in time, or relies on informal agreements without written documentation.
When Is It Worth Consulting a Lawyer?
It is worth turning to a lawyer not only once liquidation proceedings have already been commenced against the company. In many cases legal assistance may be needed much earlier.
Involving a lawyer is particularly justified if the company:
- has received a payment notice;
- has received an order for payment;
- is threatened with a liquidation petition;
- has received a liquidation petition;
- has accumulated tax debt;
- is affected by enforcement proceedings;
- has overdue debts towards several suppliers;
- is struggling with an ownership dispute, a change of managing director or a capital shortfall;
- or the managing director fears that personal liability may arise.
A well-prepared legal strategy can help the managing director avoid making decisions that can later be challenged, document their steps properly, and recognise in good time when to conclude a settlement, dispute a claim, request a payment moratorium or choose another legal solution.
How Can Dobrocsi Law Firm Help?
Dobrocsi Law Firm provides legal assistance to companies, managing directors and owners in cases of payment difficulty, debt collection matters, liquidation proceedings, company law decisions and litigation.
Our firm provides assistance with, among other things:
- assessing managing director liability risks in advance;
- the legal assessment of payment notices and creditors’ claims;
- defending against liquidation petitions;
- settlement negotiations with creditors;
- preparing company law decisions;
- debt collection and litigation proceedings;
- as well as the ongoing legal support of companies.
If your company is struggling with payment difficulty, or as a managing director you are unsure what personal liability risk a particular decision may involve, it is worth seeking legal advice before taking the next step.
A prompt and considered legal response can in many cases be decisive not only for the company but also for reducing the managing director’s personal risks.
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