Redundancy pay for sole directors

Is it possible for a contractor to claim?

There is a widely held view and common belief that company directors are not entitled to redundancy pay but in limited circumstances it may be possible.

When a business fails and has to go into liquidation, directors, who have invested time, sweat and money in trying to establish and grow their companies, will feel a sense of bereavement, so it’s useful to know that there might be some form of small recompense when falling on hard times.

In the Employment Appeal Tribunal case of Secretary of State for Business Innovation & Skills v Knight (2013), Mrs Knight claimed from the Insolvency Service the redundancy payment which her company, of which she was the Managing Director and sole shareholder, had not paid to her. Initial judgement by the Employment Tribunal found that she was entitled to a redundancy payment of £7,296 but the Secretary of State appealed.

Mrs Knight formed her company in February 1991 but it ceased trading as insolvent, 20 years later, in October 2011. When the business commenced, a contract of employment was drawn up between the two parties. This provided for working hours of 09:00 – 17:30 from Monday to Friday and for an annual salary of £20,000 plus discretionary bonuses. The contract however was never formally executed.

Knight was responsible for sales and marketing and wrote all the tender documentation for contract bids. She actually worked from 08:00 – 19:00 and travelled extensively on behalf of the company.

When the company was operating satisfactorily, Knight was paid £1,000 (net) per month and apart from paying other employees, the intention was that any profits would be ploughed back into the business.

In the last two years of the company’s trading, Mrs Knight, in an effort to keep the company afloat, did not enforce her contractual entitlement to pay and therefore received no monies at all. Due to the company’ plight there was insufficient money to pay her and she therefore forfeited her salary in order that her employees and suppliers might be paid. Unfortunately, this was in vain as the company became insolvent and ceased to trade, hence Knight’s claim to redundancy.

Secretary of State’s appeal was threefold but one of their grounds was that with Knight forfeiting her entitlement to pay, she had changed her position; there was no wage being paid by the company  and no mutuality between them which would support the existence of a contract of employment during the last two years of the company’s existence. This point was crucial as it was necessary for Mrs Knight to have been an employee, so that her company would have been under an obligation to pay her a redundancy payment.

The judge stated that the fact Knight decided not to require her company to pay her salary as an employee did not necessarily lead to the conclusion that she must have entered into an agreed variation of the contract or a discharge of that contract. Knight had simply chosen not to enforce her entitlement to pay in order to keep the company afloat. Secretary of State’s appeal was therefore dismissed.

The key to a claim to redundancy pay is to have a contract of employment right from the outset and this will be the stumbling block for the majority of contractors.

Company directors run limited companies on behalf of the shareholders. They have different rights and responsibilities from employees and are classed as office holders for tax and NIC purposes. Where a person does other work that’s not related to being a director, they may have an employment contract and get employment rights, including the National Minimum Wage. However, it is this very right that most contractor’s will not want to expose their companies to, as they will want to retain the right and enjoyment of the flexibility to decide exactly how they extract profits from the company.