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Can directors be held personally responsible for litigation costs?

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18/03/2014

The Court of Appeal has found a director personally liable for the legal costs of an action brought against his company. While the facts are unusual, it highlights a little used but nonetheless powerful discretion of the court to make costs awards against non-parties to an action when it deems it just to do so.

Mr Threlfall had brought a largely successful High Court claim against his former employer, ECD and ECD’s director and main shareholder, Mr Whitney [1]. The claim was for breach of contract for failing to pay dividends and honour an agreement to share the equity in ECD. Mr Threlfall also asked the judge to find Mr Whitney jointly and severally liable for the costs of the action arguing by analogy, that in the circumstances, this was the kind of case in which a non-party costs order would have been made under the Senior Courts Act 1981 [2] had Mr Whitney not been a party to the action. In the event, the judge decided the substantive claim against ECD, and concluded that there was no basis for a claim making Mr Whitney personally liable particularly as ECD was a solvent company. Further, ECD had accepted costs liability and the judge found no reason to make a costs order against Mr Whitney.

Unfortunately, ECD became insolvent after the judgment. Unable to recover his costs from ECD, Mr Threlfall appealed the judge’s decision not to hold Mr Whitney jointly and severally responsible for the litigation costs.

The Court of Appeal found that the first instance judge had not given due consideration – by analogy – to the principles underpinning non-party costs orders. This omission impaired the judge’s discretion and allowed the Court of Appeal to review her decision and exercise the discretion afresh.

The court considered Mr Whitney’s part in the dispute and the High Court proceedings. In particular: Mr Whitney was ECD’s sole director and shareholder; he had absolute corporate control and made all the company decisions; he tried to resile from the agreement with Mr Threlfall because it was not in his own financial best interests; he put forward a counterclaim that was also framed to ensure financial benefit to himself; his defence was designed to resist dilution of his own shareholding; his evidence for ECD was found not to be credible and in parts to have been given in bad faith; and further, being a party to the action, he had been a full participant and must have been aware that ECD’s defence was false.

On the basis of this evidence, the Court of Appeal concluded that it was just to make what amounted to an exceptional costs order against Mr Whitney. It dismissed the potential argument that making a non-party costs order against a company director could be seen as piercing or lifting the corporate veil. The protective concept of a company having a separate personality was in place to deal with the company’s legal rights and obligations. By contrast, the Court’s order of a non-party costs order was purely discretionary – it had nothing to do with the rights and obligations of the non-party. Indeed, being a non-party entails the notion that such a party does not have substantive liability for the claim alleged. In deciding to make a non-party costs order, ‘the court is not fettered by the legal realities… It is entitled to look at the economic realities…’ [3]

The fact that Mr Whitney was a director of ECD was not on its own enough to justify a discretionary non-party costs order. Nevertheless, the string of other reasons highlighted above rendered it fair and just to make a costs order in this case by analogy to the rules governing non-party costs orders.

So the answer is – yes: directors can be held liable for litigation costs incurred by their company.

However, those who fulfil their director’s and corporate obligations responsibly and in good faith, should avoid the kind of personal liability imposed on Mr Whitney in this case. Sole directors and directors of small and medium sized enterprises who make many of the decisions in running a company should be scrupulously honest and proactive in their handling of disputes – or risk personal costs liability.

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[1] Threlfall v ECD Insight Ltd and another [2013] EWCA Civ 1444 (29 October 2013)
[2] Section 51 of the Senior Courts Act 1981 http://www.legislation.gov.uk/ukpga/1981/54/section/51
[3] Paragraph 13

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