Association directors beware of liability

A board position within an association is often seen as an honorable, social task. However, this role also entails legal risks, especially when the association finds itself in financial difficulties. Many directors do not realize that under certain circumstances they can be held personally liable in the event of bankruptcy of the association.

In this blog I explain how this liability works, which legal rules apply, what directors can do to avoid liability and I give some practical tips.

When is a director liable?

The law stipulates in article 2:50a of the Dutch Civil Code (BW) that the regulation for directors’ liability in a public limited company (article 2:138 BW) also applies to many associations. This means that a trustee in bankruptcy can hold each director jointly and severally (personally) liable for the debts. The trustee can only do this if there is improper management (also called mismanagement) and this mismanagement is a major cause of the bankruptcy.

Directors therefore run the risk of being held personally liable for the debts of the association if they have seriously neglected their duties and thereby caused the bankruptcy.

The law distinguishes between two types of associations for the application of this liability regulation:

1. Formal associations: these are commercial associations that must pay corporate tax or are required to draw up annual accounts that are the same as or comparable to the annual accounts as referred to in Title 9 of Book 2 of the Dutch Civil Code.
2. Informal associations: these are associations to which the above does not apply. They are also called non-commercial associations.

Formal associations are subject to a so-called presumption of evidence. This means that if the association has not complied with the accounting obligation or if the annual accounts have not been published (in time), it is automatically assumed that there is improper management and that this was an important cause of the bankruptcy. This presumption of evidence works to the advantage of the trustee: he does not then have to prove himself that the directors have behaved improperly or that this behavior caused the bankruptcy. In that case, the burden of proof lies with the directors, who must demonstrate that the bankruptcy was inevitable even without any mistakes on their part.

For informal associations, this is different and this presumption of evidence does not apply. The trustee will then have to demonstrate that there is improper management and that this is the cause of the bankruptcy.

In addition, article 2:139 BW also applies to formal associations. This article concerns another form of directors’ liability: liability for damage to third parties as a result of a misleading representation of the financial situation of the association, for example via the figures, the annual accounts or the annual report. This concerns situations in which others have been misled by the figures presented and have suffered damage as a result. For example, consider a supplier who supplies goods because he or she thinks that the association is financially healthy and can pay him, while this is not the case.

Level of liability

The amount for which the director is liable depends on the deficit in the bankruptcy. This deficit consists of the amount that cannot be paid to the creditors from the bankruptcy estate. In addition, all directors are in principle personally liable, and it therefore does not matter whether you as a director were actually involved in the improper management. The actions of one director can bind the entire board.

Avoiding liability

If the trustee starts legal proceedings to recover the bankruptcy deficit from the directors, the directors still have options to defend themselves against this. For example, they can request the court to moderate the amount for which they are held liable. They can also try to exculpate themselves. This means that the director must demonstrate that the mismanagement is not his or her fault and that he or she has not failed to take measures to prevent the bankruptcy.

Practical tips for directors

Directors can protect themselves against personal liability by taking out directors’ liability insurance. This insurance usually also covers the costs of legal assistance and is usually affordable. In addition, associations without a supervisory board are required by law to appoint an audit committee (Article 2:48 paragraph 2 of the Dutch Civil Code). This committee regularly checks the administration and financial management of the treasurer in order to report any irregularities to the board or the members’ meeting.

Finally

Finally, it should be noted that in addition to this liability arrangement in the event of bankruptcy, the law also provides a basis for liability for internal liability. On the basis of Article 2:9 of the Dutch Civil Code, a director can be held liable to the association if he or she has not properly performed the management task. In addition, a director can also be held liable by third parties on the basis of tort if he or she has acted unlawfully on behalf of the association (Article 6:162 of the Dutch Civil Code).

Questions

Do you have questions as a result of this article? If so, please contact one of our attorneys by  email, phone or fill out the contact form for a no-obligation initial consultation. We are happy to think along with you.