Accidentally stealing from your own company: a remarkably common SME crime

By James O’Connell, Commercial Lawyer, Mayo Wynne Baxter Solicitors

It’s amazing how many people think that they understand the key concept of a company, but don’t really get it. 

In some ways, incorporating a company is like adopting a baby. Yes, you have effective control over the child, but a baby is its own separate person with its own rights and (eventually) obligations. You may have effective control, but not absolute control – and there are clear lines that you cannot cross.

It’s the same with a company you create. You direct it on a day-to-day basis as a director, and you have transient control over it as a shareholder (shareholders come and go, but the company remains). But, like a child, the company is a separate legal entity with its own rights and obligations. Rights are owned, and obligations owed, by the company; not the by directors and not by the shareholders (each group has its own specific sets of rights and obligations under the law).

Being a separate legal entity means that all the money in a company’s bank account and all the assets on its balance sheet, and all the debts owed to it by customers – they all belong to the entity that is the company, and not the directors/shareholders (which is why the company and not the shareholders have to pay the corporation tax on profits).

Obviously, the law allows the directors to empty the vaults by taking payments for their services and the shareholders are free to access the company’s money and assets via dividends and asset distribution on winding up, BUT these things must be done properly, formally, and legally. 

In the same way that you can’t just pocket aunt Jane’s pearl earrings upon her death (you have to inherit them via probate), so you can’t just dip into the company’s current account if your home boiler needs replacing. You need to withdraw the money in a lawful way. If you don’t, then that “dip in” is actually you taking money that does not belong to you – and that’s potentially a crime.

Whether you helping yourself constitutes theft is usually down to a mixture of timing and the financial wizardry practiced daily by the UK’s accountancy profession.

Many an unlawful dip in (or worse) is saved from being theft by accountants (acting like some form of professional after-the-event insurance policy) re-labelling and re-framing otherwise unlawful spending (where and whilst it is lawful to do so I hasten to add!). 

The reckless spending of company money on a night out with friends might be re-frameable as ‘client entertaining’ (depending on who the friends were); paying the school fees becomes an approved directors’ loan and going to the Canary Islands (not Las Palmas, obviously) on holiday is re-framed as an interim dividend.  

The legitimacy of such after-the-event reframing is, of course, sometimes debateable. Grey areas abound. Inevitably sometimes dubious spending is merely hidden, without transubstantiation from unlawful to lawful. But even then, although HMRC might still want a quiet word, people rarely band around allegations of theft.

It all goes wrong when the ripping of funds from the company is too big or too serious or too public for the soothing balm of relabelling to work: it can’t be an interim dividend because the company hasn’t made enough profit to issue a dividend, it can’t be a director’s loan because the money was taken without consent by a shareholder’s husband/wife, and it can’t be called entertaining because the UK GAAP standard (accounting rules) doesn’t allow buying cocaine while attending an illegal dog-fight to be reclaimed as entertaining (although not being an accountant I stand to be corrected on that point).

It may not surprise you to know that this issue surfaces most frequently when family-run businesses fail because of divorce proceedings between the principals. There’s no money, no flexibility, no compassion and every spend is subject to hostile scrutiny. In a recent case the Official Receiver went after the wife (a director/shareholder) who used company funds to feed herself and her children whilst all (including income) was in deep freeze because of a nasty divorce. That lady learned the hard way that her children were not the company’s children, and therefore the Official Receiver was stoney-hearted on hearing that money from the company bank account had been used to feed them.

The moral of the story is that owning the shares in a company is not the same as owning the assets. You don’t. The company does. So, unless you follow procedure and withdraw the money lawfully using correct procedure, then you are at risk of being taken for a thief if the accounting Dumbledores can’t work their magic.