What a member of the board needs to know to reduce his/her responsibility

05.06.2015 Veronika Telepneva, lawyer

Taking into account the continued relevance of the topic and a number of changes in the legislation we would like once again to discuss the responsibility of members of the board.

The responsibility of members of the board before the company begins from the moment of their election to the position, i.e. after the relevant decision of the shareholders has been made and a written consent of the member of the board to accept the position has been given. Accordingly, the liability ends the moment when the member of the board is removed from the position by the decision of the participants or their resignation from the position.

Article 169 of the Commercial Law states that a member of the board shall perform the duties as would an honest and careful manager. The main tasks of the member of the board are: to lead the company, make decisions that affect the state of affairs of the company and its development. The member of the board must act in the interests of the company ensuring its long-term development rather than chasing after short-term profits, exposing the company to unreasonable risk in the future. It should be noted that it is impossible to foresee all the consequences of the decision, especially taking into account the ever-changing market conditions. The project which seems to be profitable today, may become unprofitable tomorrow. All the entrepreneurial activity involves some risk. Therefore it would be wrong to impose on a member of the board responsibility for the mistakes that would have been committed in his/her place by any other honest and careful manager.

In addition, the law states that a member of the board is not liable for damage caused to the company if he acted in good intentions in the framework of the legitimate decision of the shareholders’ meeting. It is necessary to emphasize the word “legitimate” – both in form and in content. As our practice shows, there may be a trap for a member of the board who, having received relevant guidelines from the shareholders, will immediately start performing his/her tasks. One of the duties of a member of the board is compliance with the requirements of the law therefore before he/she proceeds with performing the decisions of the shareholders he should assess their legitimacy. Otherwise he would have to compensate the losses to the company. E.g., if the founders decide that the money should be invested in the project, but the tax payable in this case still remains unpaid, then the member of the board will be responsible for it.

The Commercial Law provides the presumption of guilt of a member of the board. Therefore in the event of a dispute on whether a member of the board acted as an honest and careful head of the company, the member of the board would have to prove it. In what way would he have to do it?

We would advise to the member of the board prior to the conclusion of a major transaction, the purchase of securities or investment to secure himself against, namely to make an assessment of the real estate, obtain the opinion of specialists and assessment of experts, to document the course of the board meetings. In the future, if such necessity arises, exactly these documents will help to prove the absence of guilt of a member of the board and expediency of his/her actions during that period of time. However if a member of the board decides to invest into a financial pyramid or puts money on deposit of a merchant who does not have the license of the Financial and Capital Market Commission, in the case of losses it will be difficult for him to explain the reasonability of such a risk. In any case, the responsibility of a member of the board comes as soon as the company has suffered losses, and not when the contract was signed.

If there are has several members of the board in the company then all members of the board shall be liable jointly and severally. Many members of the board mistakenly believe that if on a board meeting they vote against the adoption of any decision, then it will release them from responsibility. On the contrary, all the necessary actions should be performed, such as calling a meeting of the members, in order to prevent the implementation of the decision the consequences of which will be unprofitable. As the judicial practice shows, deliberate lack of action shall be punished more severely than the actions of a member of the board whose decisions have led to losses but who acted in good faith. However, it sometimes happens that resignation and the refusal of the position is the only way to absolve the responsibility.

Our experience shows that timely seek for qualified legal advice and the solution of the problem at the early stage allows to avoid a lot of problems, litigation and additional financial costs in the future.

We also want to draw attention to some significant changes in the legislation the purpose of which is to increase the level of individual responsibility of the members of the board.

Amendments to the Insolvency law apply to the members of the board more responsibility for the safety of all accounting and other documents that may provide an insight into transactions and property status of the company. Therefore, it is important to remember this when organizing the daily activities of the company.

The recent changes in the Law on Taxes and Fees authorize the State Revenue Service of Latvia to begin the process of collecting the tax debts of the company from its members of the board if these tax debts were formed while the person held the position of the member of the board, and including all of the following criteria:

  1. the amount of the tax debt exceeds 50 minimum wages (EUR 18,000);
  2. the taxpayer was notified of the decision of collecting tax debts;
  3. after the formation of a tax debt the company alienated its assets to the concerned (within the meaning of the Law on the Insolvency) persons;
  4. an official act was drawn up of the impossibility to recover the tax debt from the company;
  5. the company has not announced its insolvency in violation of the Law on Insolvency.

It should be noted that the new rules apply only to tax debts, which were formed after the 01.01.2015.

For more information about these and other changes, contact our Law Office INLAT PLUS.

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