Excessive transfer of tax to the budget became the basis for a claim of a member of an LLC against its former director, who signed payment orders without making sure that the amount of tax liability was determined correctly. The Commercial Court of Cassation as part of the Supreme Court once again provided comprehensive clarifications on the procedure for holding officials liable for damage caused by their actions/inactions.
The recent decision of the court of cassation discussed several fundamental issues related to the procedure for holding officials liable in case of violation of the corporate governance principles provided for in Article 92 of the Civil Code of Ukraine. I would like to remind you that officials are obliged to act reasonably, in good faith, in the interests of the company, avoiding conflicts of interest.
Once again, the court characterized these legal relations: the obligation of the director to compensate the company for damage in cases provided for by law is a tort. Therefore, in order to properly resolve the dispute in favor of the plaintiff, the court needs to establish all 4 elements of a civil offense:
- illegality of actions
- existence of damage
- causal relationship between the first and second elements of the offense
- guilt (and its type).
I would like to remind you that the list of unlawful actions that are the basis for bringing a company official to liability is provided for in part 2 of Article 89 of the Civil Code of Ukraine. The court practice has formed the following position interpreting the said provision of the Commercial Code: «The unlawful behavior of an official consists in improper and unfair performance of certain actions, without observing the limits of normal economic risk, with personal interest or in the abuse of his official duties at his own will (discretion), making obviously reckless, wasteful and deliberately selfish decisions in favor of such an official” (Resolution of the Grand Chamber of the Supreme Court of 22.10.2019 in case No. 911/2129/17 and the Commercial Court of Cassation as part of the Supreme Court of 19.02.2020 in case No. 904/3852/18).
In the context of a dispute between a former official and a company, the court investigated whether the director's actions are considered to be illegal if there is no evidence of abuse of duty or personal interest of the director.
The Commercial Court of Cassation as part of the Supreme Court clarified that the director's misconduct, who had the right of first signature, signed payment orders by applying an electronic digital signature to pay land tax for individuals to the budget, while the company was not a taxpayer and did not own land plots. Such a mistake of the director indicates his improper fulfillment of statutory duties, lack of due diligence in the disposal of the company's property (funds). In this case we are talking about a mistake in payment of tax, which arose not as a result of inadequate quality of tax legislation, i.e. confusion (ambiguity) of legal regulation, conflicts between its provisions, their different interpretation by the taxpayer and the tax authority, unequal court practice, complex procedure of tax calculation (determination of the object, tax base, tax rate or procedure of its calculation), but in a situation characterized by legal certainty. And the director of the company in the case of proper performance of his duties, the manifestation of reasonable care should not have made such a mistake.Thus, the unlawful behavior of the director consisted in the erroneous payment of tax contrary to the interests of the company due to lack of due diligence, improper performance of his statutory duties.»
The other element of the offense, which was thoroughly investigated by the court, is fault. At the same time, when objecting to the satisfaction of a claim for damages, an official has the right to prove that his/her actions/inactions are not guilty. In this case No. 904/982/19, the Court of Cassation noted that «inthought as a form of guilt includes an element of awareness and intent. A person's actions are considered to be committed with intent if he or she was aware of the unlawfulness of his or her behavior and wished or knowingly allowed the occurrence of harm (damage)». Guilt in the form of negligence is established in the absence of a person's intention to cause harm to the school. That is, the person did not foresee the occurrence of such negative consequences, although he or she could and should have foreseen them. Negligence is also considered to be a situation where the responsible person frivolously hoped to prevent possible negative consequences (their non-occurrence).
In the context of the dispute, the Commercial Court of Cassation of the Supreme Court noted that the court of first instance, although it established the guilt of the director's actions, did not determine the form of guilt. According to the court, determining the form of fault (intent/negligence) plays a significant role in investigating the circumstances of a civil offense and establishing all its elements. Thus, according to the judges, «in the case if the director realized (or should have realized) that he did not have relevant knowledge in the field of finance and tax legislation, he had the opportunity to hire a qualified accountant or seek the assistance of an audit firm to provide professional assistance and advice on taxation. In the case at hand, the director of the company obviously did not intend to cause damage to the legal entity under his management. That is, the form of his fault is negligence."
The court of cassation, reversing the appeal decision, changed the decision of the court of first instance in terms of the amount of compensation, significantly reducing it with reference to Article 1193 of the Civil Code of Ukraine. The following arguments and legal justifications were relevant:
- the plaintiff, the company, did not take any actions aimed at minimizing losses; no claims were filed against the tax authorities or land owners for the return of unjustifiably transferred funds (the company has not yet lost the right to file such claims);
- the director made unjustified payments of land tax in 2016 and 2017, then resigned, and the audit was conducted only in 2019;
- when approving the financial results, the company's shareholders, with reasonable care, could have detected the error themselves;
- the director did not commit any abuse and did not intend to harm the company's interests.
Thus, in certain circumstances, in particular, having established that the plaintiff did not take actions aimed at minimizing losses, was negligent, and did not independently and promptly determine the existence of a violation by the director, the court reduces the amount of damages to be recovered in favor of the company from the director. The court is unlimited in determining the amount of such reduction, relying on the circumstances of the case and assessment of the behavior of the parties to the dispute.</nbsp;
Thus, such a thorough analysis of the rules of law to be applied in the disputed legal relations, contained in the considered resolution of the Commercial Court of Cassation within the Supreme Court in case No. 904/982/19, can be used as an instruction for preparing a legal position in similar cases.
The evidence base and arguments in terms of determining whether the actions of the director are unlawful in the context of Article 89 of the Commercial Code of Ukraine and Article 92 of the Civil Code of Ukraine should be formed in view of the position that not only an outright violation of the law or the provisions of the charter forms the objective side of a civil offense, but also reckless, wasteful, unreasonable actions/inactions. At the same time, the absence of direct intent to cause damage, signs of abuse or actions in one's own favor is not legally relevant. Let me remind you that intent is characterized by the ability of a person to foresee the consequences of his actions, to realize them and to desire their occurrence. A person who acted negligently, on the contrary, does not realize the unlawfulness of his or her behavior, although by all indications he or she should have done so.
The amount of damage to be recovered may be reduced at the discretion of the court. The legal basis for this may be unfair actions on the part of the company itself, in particular, evasion of minimization of losses, delay in their establishment and calculation.
In fact, the practice of holding controlling persons liable is a powerful tool for preventing abuse of the corporate form. And its widespread use, in my opinion, will have a positive impact on the investment climate in the country and on increasing the level of trust in society in the legal institutions for the protection of property rights.
Author: Yulia Kurylo, attorney at law, expert on vicarious liability of business owners and managers
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