Is Intentional Bankruptcy Illegal?

Question

This is a completely hypothetical scenario and so I'm happy for answers for any jurisdiction, however I'm based in the UK and so some of my terminology may be specific to there.

What is the legality of establishing a limited company, paying myself using the entirety of its overdraft, then declaring bankruptcy? Would there be any penalties to me?

Let's say I bank with Barclays - their website advertises a £50k unsecured overdraft. Let's also ignore any qualifying conditions like the business needing to be trading for X years etc, I'm more interested in the hypothetical than the concrete. The business account starts with £0, I'm not buying/selling anything, but withdraw the full £50k to pay myself. Now, obviously, the company doesn't have the money to pay off the overdraft and so begins insolvency proceedings.

From my understanding, one advantage of a limited company over e.g. a sole trader or partnership, is that the company becomes its own legal entity and so the debts are "within" the company and not transferred to the directors. So from this angle, along with the overdraft being unsecured, I understand that they wouldn't be able to come after me for the money

Answer 1

Fraud

england-and-wales northern-ireland

This would be fraud under Section 2 of the Fraud Act 2006:

(1) A person is in breach of this section if he — (a) dishonestly makes a false representation, and (b) intends, by making the representation — (i) to make a gain for himself or another, or (ii) to cause loss to another or to expose another to a risk of loss.

(2) A representation is false if — (a) it is untrue or misleading, and (b) the person making it knows that it is, or might be, untrue or misleading.

(3) “Representation” means any representation as to fact or law, including a representation as to the state of mind of — (a) the person making the representation, or (b) any other person.

(4) A representation may be express or implied.

When you, as a director, sign the loan application form, you are representing that you will pay the loan back. The fact that you know that you intend to default on the loan makes it a false representation. Limited liability is irrelevant here. See Section 12:

(1) Subsection (2) applies if an offence under this Act is committed by a body corporate.

(2) If the offence is proved to have been committed with the consent or connivance of — (a)a director, manager, secretary or other similar officer of the body corporate, or (b) a person who was purporting to act in any such capacity, he (as well as the body corporate) is guilty of the offence and liable to be proceeded against and punished accordingly.

On a more practical note, banks aren't oblivious to the possibility of the scenario you describe. The chances of a major bank issuing a large loan to a brand new company without also requiring a guarantee from the director is essentially nil. Note that "unsecured" in this context means that no asset is used to secure the loan (e.g. land or a car). It doesn't mean that the director won't be required to provide a guarantee.

Transaction unwinding

england-and-wales

Section 238 of the Insolvency Act 1986 provides as follows:

(1) This section applies in the case of a company where - (a) the company enters administration, (b) the company goes into liquidation; and “the office-holder” means the administrator or the liquidator, as the case may be.

(2) Where the company has at a relevant time (defined in section 240) entered into a transaction with any person at an undervalue, the office-holder may apply to the court for an order under this section.

(3) Subject as follows, the court shall, on such an application, make such order as it thinks fit for restoring the position to what it would have been if the company had not entered into that transaction.

(4) For the purposes of this section and section 241, a company enters into a transaction with a person at an undervalue if - (a) the company makes a gift to that person or otherwise enters into a transaction with that person on terms that provide for the company to receive no consideration, or (b) the company enters into a transaction with that person for a consideration the value of which, in money or money’s worth, is significantly less than the value, in money or money’s worth, of the consideration provided by the company.

This provides creditors with the ability to ask the Court to "unwind" the transaction and recover the money from the director. See Section 240 and 249 for details of the time limits for doing this.

Answer 2

In some cases it it possible for courts to "pierce the corporate veil" and shift the liabilities of a corporation to its owner(s). This can be done in cases where there is no real separation between a corporate entity and its owners, wrongful conduct has occurred, and another party was harmed by it.

In this scenario, you have basically a sham company that fraudulently obtained a loan with no intention of paying it back, but instead for the sole purpose of giving it directly to the owner. This would likely be an excellent case to pierce the corporate veil - conducting financial fraud under the guise of an LLC very likely will not shield the owner from liability.

Answer 3

In U.S. law, the most efficient way to address this would be with a fraudulent transfer claim, either within the bankruptcy, or in a separate action of the bankruptcy trustee, to "claw back" the transfer to you. Alternatively a fraudulent transfer action could be brought against the transferee directly by the creditor. Punitive damages and attorney fees might also be available to the bankruptcy estate or the spurned creditor in a claim for civil theft against the owner/founder of the company who received the funds.

If it was an intent to defraud, which the question assumes, it would also support a criminal claim of theft or fraud (the way that white collar crime offenses are labeled varies considerably in the U.S.).

Also, to be clear as the headline title of the question is somewhat misleading, intentionally filing for bankruptcy is not illegal. Indeed, the vast majority of bankruptcy filings are intentional and voluntary.

What is illegal is taking money from a company with an intent to render it insolvent and cause money harm to a creditor. Whether the company actually files for bankruptcy or not is really irrelevant to the question. The point is that a transfer was made by an insider with an intent to defraud a creditor, which would make collection efforts by the creditor, in or out of bankruptcy, futile.

Answer 4

Further to the answers you already have regarding criminal matters, directors of a company in England or Wales that has gone bankrupt are also subject to various restrictions on what they can do in their personal and professional life. From this link, some examples are:

• act as a director of a company, or form, manage or promote a company, without permission from the court
• carry on business under a different name without telling people you do business with the name (or trading style) in which you were made bankrupt
• try to borrow more than £500 without saying you are subject to restrictions
• be a trustee of a charity
• be a trustee of many pension schemes
• work in various posts in education such as being a school governor
• work in various posts, or enter into certain contracts, in the health industry
• hold various posts in some public authorities, or in similar organisations

These restrictions apply for a minimum of 2 years, but a court can decide to impose them for up to 15 years.

Answer 5

italy

The Italian laws defines a crime exactly for this case. It is called bancarotta fraudolenta in English fraudulent bankruptcy.

However. It is so common that the newspapers for this case coined the colloquial term bancarotta pilotata which might translate to piloted of driven bankruptcy.