Wednesday 15 October 2014 4:34 pm

The crackdown on no win, no fee risks handing a victory to dodgy directors

One of the hazards of policymaking is that many of the best-laid plans can have curiously unintended consequences. In implementing policy, meanwhile, government can often find its left hand undermined by its right. So it has been with the Ministry of Justice’s laudable bid to halt spurious and costly civil litigation, an initiative which now risks compromising a crackdown on rogue directors by the Department for Business, Innovation and Skills.

The Legal Aid, Sentencing and Punishment of Offenders (LASPO) Act was introduced in 2012 by the coalition to protect the taxpayer and public interest by severely curtailing the use of “no win, no fee”. These are the types of legal cases made infamous by the personal injury advertisements that have plagued a generation of daytime television viewers. It was a popular move, designed to free up court time and cut costs for companies, individuals and public institutions targeted by vexatious and unworthy litigation.

The changes were implemented for all types of litigation. Insolvency litigation, however, was given a specific carve out on the basis of it being in the public interest – when such litigation is successful, HMRC receives returns from the insolvent estate, while creditors like small businesses get some of their money back. Meanwhile, claims brought in such instances are neither frivolous nor disproportionate in cost, and since alternative funding tends to have a high acceptance threshold and a high cost, far fewer cases would be pursued without “no win, no fee”.

From 1 April next year, however, the government intends to end the insolvency exemption. At a stroke, this risks putting the Ministry of Justice in direct conflict with the efforts of the Department for Business, in its Transparency and Trust project, to clampdown on rogue company directors who take money or assets out of a business that subsequently goes into liquidation.

The vast majority of corporate insolvencies do not involve directors who have acted unlawfully. But in those cases that do, the “no win, no fee” system has proven to be effective in helping insolvency practitioners fund investigations into corporate wrongdoing. Since, for obvious reasons, there tends to be very little or often no money left in an insolvent company, often there are no practical alternatives to “no win, no fee” when it comes to funding this type of litigation.

This was confirmed in a recent study by the University of Wolverhampton, which also revealed that £160m a year is being recovered from dodgy directors under the existing system. This is then returned to those to whom it is rightfully owed, such as businesses and sole traders awaiting payment for goods and services provided. The “no win, no fee” system also incentivises rogue directors to settle before a matter is taken to court, keeps insolvency costs down, ensures that creditors do not have to stump up for legal fees, and acts as a deterrent to other directors.

Should the LASPO regime be extended next April to insolvency litigation, it is likely to prove unaffordable for creditors to pursue directors and third parties holding onto their money, particularly for sums less than £50,000. This might sound like small change to large organisations, but for any small business it could well be the difference between survival and going under. Claims are also more likely to be dragged out, increasing costs to creditors. Why should directors who have wilfully engaged in wrongdoing get away scot-free? The Ministry of Justice should be under no illusion – it is those dodgy executives who will be the only winners if these proposals are implemented.

The maintenance of the current set-up ought to be a no-brainer, but the Ministry of Justice insists that LASPO must be applied consistently, and it will be pursuing the changes on this basis. The UK’s insolvency profession has proved itself incredibly effective at mopping up after business failure, but this plan looks set to make its job much harder. Today, representatives of the industry will be sending an open letter to the Prime Minister, outlining their concerns about the removal of the insolvency litigation exemption.

It is the smallest of businesses and the taxpayer who will end up bearing the brunt. It seems a high price to pay for “consistency”. The Ministry of Justice has eight months to think again. The Department for Business, small firms and insolvency practitioners will be fervently hoping they do so.

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