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Please do not hesitate to contact Myerson’s experienced and knowledgeable Insolvency & Restructuring Team if you need assistance or advice on issues relating to section 216 of the Insolvency Act 1986.
When a company goes into insolvent liquidation, it is sometimes the case that the directors of that company want to set up a new company.
Often, directors want the new company to have the same name as the old company so that they can benefit from any goodwill generated by the old company.
While there is no general restriction on the directors of insolvent companies starting a new company, there are specific rules which prevent them from reusing the same name.
What is the prohibition?
Section 216 of the Insolvency Act 1986 was enacted to prevent the so-called “phoenix syndrome” where a new company is setup, trading under a similar name as an insolvent company, with the insolvent company’s assets and management, but free of its liabilities and exploiting its goodwill and business opportunities.
The aim of section 216 is, therefore, to protect the public from being misled into dealing with a new business, thinking that it is still a liquidated company.
When a company goes into insolvent liquidation, section 216 restricts its directors and any shadow directors from being involved in another company or business with the same or similar name as the company in liquidation.
Additionally, a person involved in the management of the second company will also be personally liable for certain debts of the new company if he or she acts or is willing to act on instructions given by a person whom he or she knows is in breach of section 216.
Please note, the section 216 restriction does not apply to directors or shadow directors of companies liquidated on a solvent basis e.g. by way of members’ voluntary liquidation.
What names are prohibited?
A name is prohibited if it is either the same name as the liquidated company or if it is so similar as to suggest an association with the company in liquidation.
In determining whether a name is prohibited, the Court will consider the following points:
- Both registered company names and trading names are covered by the prohibition.
- The prohibition applies where the similar name is given to an unregistered company or an unincorporated business.
- The test of similarity is objective and is a question of fact for the Court to determine.
- The Court will compare the names of the two companies in the context of all the circumstances in which they were actually used or were likely to be used, the types of products/services dealt in, the locations of the businesses, the types of customers and those involved in the operation of the two companies.
- The informal use of an acronym is also covered by the prohibition.
- The fact that the names of the companies include a name that is common or well-known is irrelevant.
How are section 216 offences investigated and prosecuted?
An offence committed under section 216 may be reported by the Official Receiver, an insolvency practitioner, investigators at the Insolvency Service or Department for Business and Trade, reports from members of the public or creditors or the Court when dealing with a company’s winding up.
Section 216 offences are prosecuted in the criminal courts by the Insolvency Service’s Criminal Enforcement Team (CET).
The CET investigate complaints and decides whether charges should be brought.
The CET usually contacts the directors of the new business or company that it suspects contravenes section 216.
The CET may offer the business time to correct the offence, such as by changing its name, before deciding on whether to prosecute.
However, whether the CET will offer the business time to correct the offence depends on the individual facts and should, therefore, not be relied upon as occurring in every situation.
In order to prove a section 216 offence, the CET would have to show:
- The liquidating company has gone into insolvent liquidation.
- The person in breach of section 216 was a director or shadow director of the company at any time within the 12 months before the liquidation of the company.
- That same person has become concerned with (whether directly or indirectly) the carrying on of a business using a prohibited name, and this has happened within five years of the date of the liquidation of the original company.
Is there a defence to Section 216 proceedings?
There is no statutory defence to section 216.
However, the offence does not apply where:
- The person has applied to the Court for leave to act; or
- One of the three statutory exceptions apply.
Applying to the Court for leave to act
If the director or person acting in the management or formation of the new business applies to the Court for leave to reuse the liquidated company’s name or a name similar to it, there will be no offence if leave is granted before the business starts.
The application should be made to the Court, which is already dealing with any liquidation issues of the original company.
Notice of the application has to be given to the Insolvency Service or the Official Receiver as they will have to provide their view to the Court as to whether leave should be granted.
Consideration will be given to any likely perceived connection between the original and new businesses.
Any risk that the public could be confused into thinking the original and new businesses are connected may mean an application for leave is refused by the Court.
What are the three statutory exceptions?
There are three situations in which no offence under section 216 will be committed.
These exceptions are found in Rules 22.4 to 22.7 of the Insolvency (England and Wales) Rules 2016 and are as follows:
- Rule 22.4: the first exception is where an insolvency practitioner makes arrangements for the whole (or substantially the whole) of the business assets of the insolvent company to be bought by the new company, and the new company has given notice to all the creditors of the insolvent company. The notice required must be given in accordance with Rule 22.5.
- Rule 22.6: the second exception is where the person to whom the prohibition applies can apply to the Court for leave to act in a way which is prohibited by section 216. They must apply to the Court within seven days of the company going into liquidation. That leave must be granted by the Court no later than six weeks after the company went into the liquidation. Therefore, an application for leave can be made after acting in contravention of section 216 as long as it is made within these timescales.
- Rule 22.7: the last exception is where the company referred to by a prohibited name has been known by that name for the entire 12 months before the insolvent company went into liquidation and has not been dormant for any of those 12 months. Please note, this exception only applies to limited liability companies, not to unincorporated businesses such as partnerships.
Consequences of infringement
A breach of section 216 may lead to civil and/or criminal liability. Both civil and criminal liability are automatic: if the conditions for liability are met, the Court has no discretion to limit the defendant’s liability.
Infringement of section 216 can lead to:
- A fine and/or a term of imprisonment.
- Being disqualified from acting as a company director.
- Proceedings for confiscation of any benefit obtained during the infringement.
- Personal liability for all debts incurred in running the new business in contravention of section 216.