To start and run a business in France, you have the choice to either operate a business as a sole trader (called an “entreprise individuelle”) or to establish a private limited company. The type of legal structure you choose will have implications on your liability as a director.
As a general rule, the director of a French company’s liability will be covered by the company’s separate legal entity, whilst the sole trader will be liable for all the debts and damages caused by his business.
However, French corporate law also provides that civil and criminal actions can be brought directly against company directors. Moreover, in practice the director’s liability towards the company’s debts does not limit itself to his shareholding.
As a result, before choosing the legal structure for your business it is important to be aware of the different liabilities a director or sole trader may face and the extent of their responsibility towards the business’s debts,taking into account the possible ways to avoid personal liability.
The unlimited liability of the sole trader
In an “entreprise individuelle” a director can start a business in France without actually establishing a separate legal identity. Therefore, without a capital structure to identify the business the sole trader is the business. A disadvantage with this approach is that any damages resulting from the business’s management will be held against the sole trader. This includes civil damages caused by an employee of the business whilst on duty, by an object under the supervision of the sole trader, by his mismanagement, omission or imprudence.
Furthermore, the sole trader must ensure that his business complies with the statutory and regulatory provisions in force. Any intentional or unintentional violation of the above provisions by the sole trader or his employees can be criminally prosecuted.
The ‘alleged’ limited liability of the company director
On the other hand, the creation of a company implies that the business is a separate legal entity from its shareholders. Therefore, if the company causes an injury that results from a director’s decision or one of its employee’s actions only the company will be held liable.
However, French law provides that a civil action can be brought directly against a company director to question his management of the company. Firstly, the company itself by its legal representative or the shareholders can sue the director of the company to repair their damages resulting from the director’s violation of statutory or regulatory provisions governing corporations, of the company bylaws or from his managerial faults. If a shareholder wishes to be indemnified for his personal injury, the latter has to prove that the injury he suffered was independent from the damage suffered by the company. This “personal” injury does not include the loss of value of his shares which also affects the company. However, shareholders can always individually or collectively sue a director for a damage suffered by the company. In that case, if the director is held liable the indemnity will be perceived by the company.
Furthermore, a third party who has suffered an injury can also bring an action against a company director. However, the third party’s action is very limited. To begin with, a third party will only receive an indemnity if his injury was caused by a director’s “fault” committed outside the course of his duties. Therefore, even if the director has acted ultra vires, violated a statutory provision or concluded a tortious contract if he has acted in the course of his duties and represented the company he cannot be held liable. Moreover, it is very difficult to prove that the director has acted outside the course of his duties. Even if the director’s “fault” is very serious that will not necessarily amount to an award of damages. Only if the director has intentionally committed a crime will the courts consider automatically that the director has acted outside the scope of his duties.
It is important to note that even if you are not an official director of the company, if you interfere with the management of the company without any right to do so you will be considered as a shadow director. In those circumstances, you will incur the same liabilities as an official director of the company.
Aside from civil liability, a director of a company can also be criminally prosecuted. In French law, a company can be criminally prosecuted if the crime was committed in its name by one if its legal representatives (even if the statutory disposition of the crime in question does not make an explicit reference to legal persons). This does not prevent the victim of the crime from suing the author of the crime directly. Therefore, if a criminal action is brought against a company, in parallel the company director author of the crime can be prosecuted.
In practice, the director of the company will be prosecuted for intentional or particular severe crimes and those committed to pursue a personal interest. Furthermore, he can be criminally prosecuted for his mismanagement of the company.
Nevertheless, even if no criminal action is brought against the director himself he will still suffer from the criminal prosecution of the company. As the sanction inflicted for a crime committed by a legal person is very high (five times that of a physical person’s), the shareholders of the company may blame the director for the company’s prosecution and seek to revoke him.
Corporate social responsibility
In the event that the company does not pay the social security contributions or is condemned for undeclared work the company director can be liable for breaching statutory dispositions and will have to pay damages to the social security fund.
If the company director has repeatedly omitted to pay the companies’ taxes to the point that the recovery of the company’s taxes by the taxman is impossible, he will be liable to pay the entire amount of taxes due by the company and the corresponding fines for his omissions.
The unlimited liability of the sole trader
In theory, in an “entreprise individuelle” the sole trader is personally liable for all of the business debts.
A declaration of “insaissisabilité”:
However, it is possible to secure protection of the family home and other non-business property from creditors through a “declaration d’insaisissabilité”, which you can get through a notaire. This declaration has to be registered at the Land Registry where the property is located and with the Trade and Companies Register. However, in practice a “declaration d’insaisissabilité” is rarely made. In many cases, the declaration considerably reduces the extent of the creditor’s guarantee so the latter will refuse to finance the sole trader if he chooses to make a declaration.
It is important to remember that a sole trader’s partner can also be liable for the business debts. Firstly, the partner can be liable if he or she can be qualified as a shadowdirector of the business. Moreover, even if the partner does not intervene in the management of the business he or she can be liable depending on the nature of his or her relationship with the sole trader. If the sole trader and partner are married under a community of property regime, both the couple’s business and personal property can be employed to cover the sole trader’s debts. Furthermore, even if the couple is married under a separation of marital property regime if the partner’s personal property was employed to guarantee the sole trader’s enterprise it can be aimed by the creditors in their proceedings to recover the business’s debts.
Creation of an EIRL:
Alternatively, from the 1st of January 2011 a sole trader who creates and exercises a commercial, crafts, free-lance or agricultural business can establish an “Entreprise individuelle à responsabilité limitée” (EIRL). An EIRL allows the sole trader to hold a status which gives limited liability without the need to establish a company by separating the business assets and liabilities from his personal patrimony. This creation of a separate professional patrimony will involve the separation from the sole trader’s personal property of all the property that is necessary or exclusively employed to run the business.
In this situation, only the professional patrimony will be the subject of the creditor’s claim following insolvency proceedings. If the business debts are higher than the value of the professional patrimony so that the company is unable to pay all its creditors, the courts will end the insolvency proceedings for impairment of assets. As a result, to recover their losses the creditors will have to individually bring an action against the sole trader and will only be successful if the sole trader is liable for personal bankruptcy or fraud.
The ‘alleged’ limited liability of the company director
In theory, the directors and shareholders liability towards a private limited company’s debts such as a SARL (société à responsabilité limitée) or SAS (société par actions simplifiées) is limited to their shareholding. However, in practice this is not often the case as a director’s liability will be extended by way of personal guarantees, contribution claims and other condemnations.
To obtain a financial loan a director of a company will often personally guarantee the debts of the company such as by way of a personal security. As a result, if the company does not meet its debts, it is in the creditor’s best interest to bring an action directly against the director instead of engaging in insolvency proceedings in order to avoid competing claims from other creditors of the company.
In the event that the director cannot meet the company’s debts, the latter can present his case in front of a commission responsible for over indebted individuals (the “commission de surendettement des particuliers”). If the director’s application is successful his obligations towards his non-professional debts and personal security will be erased.
Claim for a contribution (“action en comblement du passif social”)
Aside from personal guarantees, directors may be the subject of a claim for a contribution called an “action en comblement de passif”. If insolvency proceedings or the cancellation of a safeguard plan reveal that the assets of the company are insufficient to repay the debts of the latter because of the director’s mismanagement, the director has to bear the responsibility for his “fault”. The court will determine whether the director will contribute partially or totally towards the company’s debt. A contribution claim towards the director can only be made in the three years following the insolvency proceedings or the cancellation of the safeguard plan.
The concept of mismanagement or “fault” in a contribution claim is very extensive. According to French case law, the director’s mismanagement does not have to be the only cause of the insolvency of the company. Moreover, a fault automatically results from a crime but can also result from an act that is not morally reprehensible such as imprudence, lack of intention or failure to act.
In certain conditions, a director of a company subject to insolvency proceedings or a safeguard plan can be made bankrupt, be prohibited from being involved in the management of a company or be condemned for bankruptcy.
Facing civil liability
A director of a company or a sole trader can limit his civil liability by insuring himself against his risks. In practice, in a company the insurance contract covers all the directors of a company and not a director in particular. Therefore if the company is insured so are the directors.
It is important to note that the director’s civil insurance (called the “responsabilité civile des mandataires sociaux”) does not cover for the damages suffered by a third party resulting from a director’s “fault” committed outside the course of his duties
Avoiding a criminal prosecution
A director of a company or sole trader can avoid criminal prosecution by delegating to an employee the power to act in his name for a type of activity. To do so there are important requirements that must be fulfilled. The director or sole trader must delegate in writing to the employee and must specify what activities the employee will be solely responsible for. Moreover, the employee must be someone with the authority, qualities and means to carry out the aforementioned delegation. If those conditions are fulfilled, then the employee will be liable for any crime committed during the execution of the delegated activity.