The judgment considered three topics: attribution, the illegality defence and the (extra) territorial effect of Section 213 Insolvency Act 1986.
The case saw a company in liquidation bring proceedings against its two directors (one of whom was also the sole shareholder) together with its co-conspirators, for conspiracy and dishonest assistance. The company’s liquidators also brought proceedings against the same defendants for fraudulent trading under Section 213 Insolvency Act 1986. The claims sought to recover approximately £38m of VAT liabilities incurred due to the trading of European Emissions Trading Scheme Allowances, which are commonly known as carbon credits, by the company.
The appellants sought to strike out the company’s claim against them on the basis of the ex turpi causa rule, also known as the ‘illegality rule’, namely a claimant is not able to pursue a legal remedy arising in connection with the claimant’s own illegal act.
In order to engage the illegality rule the appellants sought to establish that the unlawful conduct of the directors/sole shareholder, the directing will and mind of the company, should be attributed to the company.
The co-conspirators – a Swiss company and its director, a French resident – also challenged the liquidators’ claim for fraudulent trading arguing that Section 213 does not have extra territorial reach.
The Supreme Court upheld the decisions of the judge at first instance and the Court of Appeal and held that:
• Where a company is a victim of fraud or dishonest acts committed by its directors, the directors are not able to avoid responsibility for their unlawful conduct by attributing such conduct to the innocent company;
• In the circumstances of this case the appellants should not be able to rely on the doctrine of illegality to escape liability for the breaches of fiduciary duty of the directors;
• Section 213 does have extra territorial effect.
Note that the Supreme Court said, “As between the company and a defrauded third party, the company should be treated as a perpetrator of the fraud but in the different context of a claim between the company and the directors, the defaulting directors should not be able to rely on their own breach of duty to defeat the operation of the provisions of the Companies Act in cases where those provisions were intended to protect the company.”
It is important that the law on attribution has been clarified and directors cannot avoid the consequences of their fraudulent acts by attributing those actions to the company in order to avoid claims brought by the company or its liquidators. However, it also clear that where a claim is brought by a third party against the company, the fraudulent acts of the directors will be attributed to the company.
Defendants based outside Great Britain cannot avoid recovery proceedings for fraudulent trading brought by liquidators (under Section 213 Insolvency Act 1986) since this section does have extra territorial effect.
However, this is not the end of the argument on the illegality defence. There were differences between the Justices of the Supreme Court on the proper approach to the illegality defence – is it a rule of public policy dependent on the facts of each particular case or is it a rule of law? The Justices said that while there is a need for the law of illegality to be reviewed by the Supreme Court, this was not the appropriate case in which it should be decided.
Fiona Simpson is a partner and civil fraud specialist at law firm Kingsley Napley LLP