Secondary liability of a director under the 2014 Republic of Kazakhstan Law "On Rehabilitation and Bankruptcy" (the "Law") refers to a situation where a director would be required personally to reimburse for the difference between the value of the company's assets and the amount of creditors' claims (if any claims of creditors are not covered by the company's assets).
The Law sets out an exhaustive list of grounds when a company director may be held secondarily liable for liabilities of the company. For example, Article 6 of the Law provides that a director may be held secondarily liable for deliberate or false bankruptcy. In practice, however, deliberate or false bankruptcy is very difficult to prove.
Besides, Article 11(2) of the Law sets out a number of obligations of a director, as described below. Pursuant to Article 11(5) of the Law, a director's failure to perform those obligations would hold the director subject to secondary liability. Such obligations of a director include:
- File for bankruptcy, if a decision has been passed to liquidate the company, but the company's assets would not be sufficient to cover the claims of creditors in full;
- File for bankruptcy, if satisfaction of the claims of one or several creditors would make it impossible to fully satisfy the claims of the rest of creditors;
- File for bankruptcy within six months following the day the director has become aware or ought to become aware of the company's insolvency;
- Within three business days following the appointment of an administrator, provide the court and an administrator with information on the company's financial activities, including information on the debtor's assets;
- Within three business days following appointment of a rehabilitation manager, provide him (her) with founding documents, seals and prints; accounting records – within fifteen business days; materials and other valuables – within two months;
- Allow temporary manager to access accounting records of the company.
Previous law "On Bankruptcy" contained a similar rule, but real life examples where a director was held secondarily liable for the liabilities of a company were very rare. We observe that directors often ignore these obligations. For example, directors in Kazakhstan routinely refuse a temporary manager access accounting documents or fail to file for bankruptcy where they observe that satisfaction of creditors' claims would cause the debtor to become unable to satisfy the claims of the rest of creditors.
However, as latest practice shows, directors in Kazakh companies are increasingly held secondarily liable for the failure to perform obligations stated in Article 11(2) of the Law.
In a recent case, following a court's judgment recognizing bankruptcy of a Kazakh LLC, a bankruptcy manager filed a lawsuit with Almaty Special District Economic Court seeking compensation of damages from Ms. A. (a director and a shareholder of the debtor) for the unrecovered claims of creditors.
The lawsuit was filed on the basis that the company's debt originated in December 2013 and the debtor company had no sufficient assets at that time to repay the debt, while the director filed for bankruptcy only in April 2015. The bankruptcy manager argued that the director had failed to file for bankruptcy within six months following the company's insolvency.
By judgment dated 18 January 2016 Almaty Special District Economic Court rejected the bankruptcy manager's claim. In the judgment the District Court pointed out that "[t]he fact that legal entity's officials failed to turn to court with a bankruptcy petition within six months upon the date they became aware of the entity's insolvency does not serve as a ground to hold respondent secondarily liable. . . ." The District Court explained that turning to court with a bankruptcy petition would not have prevented the debtor's insolvency and therefore failure to perform this obligation did not hold the director liable.
Nonetheless, the Appellate Court of Almaty overruled the judgment of the District Court. The Appellate Court referred to the director's failure to timely file for bankruptcy and explained that Article 11(5) of the Law should have been invoked and that a director would be held secondarily liable for the liabilities of a company for the failure to perform obligations set forth in Article 11(2) of the Law.
The court also referred to other provisions of law not immediately relevant to this case (for example, Article 52(4) of the Republic of Kazakhstan Law "On Partnerships with Limited and Additional Liability" and Article 44(3) of Republic of Kazakhstan Civil Code ).
The fact that the Appellate Court referred to other not entirely relevant provisions of the law to justify its findings probably means that courts are not ready to hold a director secondarily liable solely for the failure to perform Article 11(2) of the Law "On Rehabilitation and Bankruptcy". Still, this latest example demonstrates that Article 11(2) of the Law works and directors should not ignore it.
The abovementioned case demonstrates that the economic crisis is actively testing rehabilitation and bankruptcy legislation in Kazakhstan and we are yet to see new examples of the practical application of the 2014 Law "Rehabilitation and Bankruptcy".
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.