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Is really the liability of a director of a company limited? A detailed analysis

Founders starting up new business always ask us one thing, since we are incorporating a company, our liability would be limited? There is no standard answer to this question and would depend on various factors such as powers assigned to board of directors in the articles of association and also other agreements. In this article, we would understand whether” Is really the liability of a director of a company limited? A detailed analysis”   with regard to particular issue of the Director’s Liabilities and the justifications for the same.

With more and more corporate scandals in India unveiling over the past few years, there has been much attention and debate on the role of company’s Directors and also been lot of focus on independent Directors.

Who are “DIRECTORS”?

As per section 2(13) of the Companies Act, 1956, Director includes any person occupying the position of a Director, by whatever name called. The definition of a Director is an inclusive definition. It includes any person who occupies the position of a Director whether or not designated as a Director.

Legal Position of a Director:

A director stands in a fiduciary capacity in the company in respect of his powers and capital under his control. The directors act as agents, employees, key managerial persons (KMP), officers and trustees of a company.

Whole-Time Directors:-

When the director is appointed as whole-time employee of the company then that particular director shall be considered as employee director or whole-time director.

Independent Directors:–

An Independent Director (also sometimes known as a outside director or non-executive director) is a director (member) of a board of directors who does not have a material or pecuniary relationship with company or related persons, except sitting fees.  Independent Directors do not own shares in the company.

General Duties of Directors:

  • Directors should act in accordance to the Articles of Association.
  • Directors should use their fair and reasonable diligence while discharging their duties; they shall act honestly and with such care as may be reasonably expected from having regard to their knowledge and experience.
  • Most of the powers of Directors are powered by the trust reposed and, therefore, should be executed in the interest of the Company and not in the interest of Director or any section of members.
  • A director of a company shall not assign his office and any assignment so made shall be void.

Liabilities of Directors:

  • Liability to the Company.
  • Liability to third parties.
  • Liability for breach of Warranty.
  • Liability for breach of statutory duties.
  • Liability for acts of Co-directors.
  • Criminal Liability.

Liability to the Company:

Breach of Fiduciary Duties:

When a director acts dishonestly to the interest of the company or exercises his powers in the interest director or any member.

Ultra Vires Acts:

The powers and activities of the directors are restricted by the Memorandum and Articles of Association. If the director acts beyond the aforesaid limits, he shall be held personally liable for such acts conducted by him.

Negligence:

The duties of the director is to safeguard the rights and properties of the company. If they fail to act diligently, they shall be held liable for any loss or damage.

Mala Fide Acts:

Directors act as trustees for the company. If they dishonestly or in a mala fide manner, exercise their powers and perform their duties, they will be liable for breach of trust and maybe required to make good the loss or damage suffered by the company for such acts. Directors can also be held liable for their acts of ‘misfeasance’.

Liability to third parties:

Liability to third parties may arise with regards to prospectus, allotment, fraudulent trading.

Liability for breach of Warranty:

When directors transact any business in respect to matters, ultra vires the company or articles, they may be proceeded against personally for any loss sustained by any third party.

Liability for breach of statutory duties:

Companies Act imposes numerous statutory duties on the directors under various sections of the Act. Default in compliance of these duties attracts penal consequences.

Liability for acts of Co-directors:

A director is the agent of the company except for matters to be dealt with by the company in general meeting and not Board. Accordingly, he will be liable for all the wrongful acts of the Board to which he was a part of or gave his consent to.

Criminal Liability:

Apart from the civil liability under the Act or under common law, directors of a company may also incur criminal liability in the following cases:

  • Dishonoured Cheques.
  • Offences under the Income Tax Act.
  • Offences under Labour Laws.

PERSONAL LIABILITY OF DIRECTORS (without any limitation of liability):

  • When the directors enter into contracts in their own name.When they enter
  • into contracts on behalf of company but fail to use “Ltd” or “Pvt. Ltd”.
  • When directors exceed their powers.
  • Civil liability for mis-statement in Prospectus .
  • Damages for Fraud.
  • With correspondence to section Actions taken in pursuance of Inspector’s Report.
  • When the Registrar of Companies removes the name of the company from the register, the liability of every director shall continue as if the company has not been dissolved.
  • When the directors are acquitted of fraudulent conduct of business.

 

 

Conclusion:

Directors have collectively and individually a continuing duty to acquire and maintain a sufficient knowledge and understanding of the company’s business to enable them properly to discharge their duties as directors. The Director cannot confine himself to lending his name to the Company, but has to take responsibility for its day-to-day management even if the functions have been delegated to some other persons. The role of Director in affairs of the Company is important.

Director has a fiduciary relationship with the Company, but in case of non-Executive Director, there are uncertainties in determining his duties. The non-Executive or Independent Director is not involved in day-to-day affairs of the Company. But the Court is of the opinion that the non-executive director cannot simply rely on the information provided by the management or executive director. Board member, independent and non-executive directors have the same legal duties and obligations as the executive directors. Simply said, the Directors have to follow all provisions, rules and regulations diligently as part of their fiduciary duties towards stakeholders without relying on another person or experts. In case of default the liability shall arise on basis of his position and also his specific responsibility.