COMPANY directors should review the way in which they are paid to prevent problems if the recession affects their businesses, a North-East legal expert has warned.

Jim James, regional chairman of insolvency trade body R3 and head of the insolvency and corporate recovery unit at Newcastle-based law firm Ward Hadaway, marked the beginning of the new financial year with a warning that director payments taken as dividends could have to be repaid if the business from which they were drawn ends up in administration.

A recent survey of R3 members, conducted by ComRes, found that the number of corporate insolvencies is expected to continue to increase significantly this year, with figures peaking at more than 25 per cent higher than last year by the end of the year. The figures for next year are expected to be slightly lower as the economy begins its recovery from the recession.

A significant proportion of directors of limited companies take an income in dividends, rather than as salary, which means they are subject to lower rates of corporation tax, instead of income tax.

These dividends must be drawn from the company’s “distributable reserves”, which are comprised of current operating profits and money in the bank from previous years.

But if the firm’s trading performance worsens, these reserves might eventually be used up, meaning any dividends drawn in such a way would not have been done so legitimately.

Mr James is advising that, if the company fails, any insolvency practitioner (IP) appointed has every right to look for these dividends to be repaid, as part of maximising the monies available with which to pay creditors.

“Making dividend payments is common practice for company directors.

But, in the present economic climate, it could create serious problems for individuals whose businesses fail,” he said.

“While straight-forward salary payments could not be targeted, dividend payments would very much be in an IP’s sights, should they have been taken from reserves that either did not exist already or did not arise as expected due to the firm’s failure.

“While it is less tax efficient to take a salary, if company directors have any concerns about the continued availability of distributable reserves for the financial year to come, the safest course would be to opt to do so and to then regularly review business performance, so that they can switch back when conditions allow.”