Corporate / M&A

Hungary: Shadow Directors in the Spotlight

Under Hungarian law, not only an officially appointed director but also a “shadow director” may be held liable towards the creditors of an insolvent company.

In summer 2012, the Hungarian tax authority proudly spread the news that an appeal court had found an individual who was not an officially appointed director but a “shadow director” liable towards the creditors for an insolvent company’s unsatisfied debts. This news made the liability of shadow directors (ie, persons exercising real influence over a company’s affairs without being officially named and registered as a director) a popular topic. Who might be at risk of being regarded as a shadow director and the legal background of their liability is discussed below.

Who can be a shadow director?

In the above case, the husband of the managing director directed the company’s affairs from the background. It would be a mistake, though, to conclude that this “shadow director issue” may come up only in small family companies, affecting husbands, fathers or other relatives. The only criterion for a person to be deemed a “shadow director” is that he or she exercises real influence over the company’s affairs. It is not necessarily someone who “lurks in the shadow”. It could be someone who speaks or acts instead of the officially appointed director. It could also be a person who is known to the public as someone having a say in the company’s affairs, such as someone who attends business meetings with the officially appointed director.

Searching for examples in the world of multinational companies, such person could be an employee involved in the management of the company without an official appointment. The relevant acts use simply the word “person” without further specification, so a legal entity could also fall under the definition. Following this logic, a parent company that gives instructions to the director of its subsidiary, or a shareholder or a private equity investor that gives instructions to its nominated director in the board of directors of the joint venture company could be at risk as well. (Separate rules deal expressly with the liability of shareholders.) Moreover, even a director, officer or employee of the parent company, or a shareholder or private equity investor can be considered a shadow directors if he or she exercises real influence over the decisions of the Hungarian company.

How does the shadow director’s personal liability arise?

A shadow director is liable in the same way as an officially appointed director. Thus, we must analyse under what circumstances a director may be held personally liable for the company’s debts. Generally, the director of a Hungarian company must give priority to the interests of the company. This rule changes, however, in the event of an imminent threat of insolvency. Then directors must give priority to the interests of the company’s creditors. If a director breaches this obligation, the director will be personally liable for the unsatisfied claims that the terminated company leaves behind at the end of the insolvency process.

In practice, two lawsuits are needed to require the director to pay instead of the company. The purpose of the first lawsuit (to be started during the insolvency process) is to establish that a person who acted as a director or shadow director any time in the three years preceding the start of the insolvency process failed to give the interests of creditors priority when insolvency was threatening. It also has the aim of stating that such breach of duty caused a decrease in the company’s assets. Then, if there are unsatisfied creditors’ claims at the end of the insolvency process, creditors may file another claim based on the first court decision and ask the court to require the director to settle debts from his or her own assets.

Directors (including shadow directors) may also be held liable if the company is ex officio deleted from the Companies’ Register without a formal insolvency procedure. This occurs if the company cannot be found at its registered seat and there are not enough assets to cover even the costs of the insolvency procedure. If the claim is filed against the director of an ex officio deleted company, it is possible to obtain a payment order against the director in one court procedure.

The only criterion for a person to be deemed a “shadow director” is that he or she exercises real influence over the company’s affairs. It is not necessarily someone who “lurks in the shadow”.