Liability of foundation director in case of rained-out festival
A director of a foundation can also run the risk of being held personally liable. This is nothing new, but is demonstrated once again by a recent judgment of the East Brabant District Court. The director of a foundation set up to organise a festival had entered into new financial commitments a day before the start of the festival, while weather forecasts were poor. This resulted in personal liability of the director towards the relevant creditor. This article explains the case and discusses the legal framework. The case provides a nice example of a situation where the court found that a director was personally culpable.
Festival budget
In early 2019, a foundation was established and the director was appointed. This foundation aimed to organise a festival to mark the 200th anniversary of Best municipality. The festival would take place from 16 to 18 August 2019. The municipality provided €200,000 for the organisation of the festival. Furthermore, the budgeted revenue of €849,000 largely consisted of expected revenue of €500,000 from coin sales.
Budget of festival does not materialise due to bad weather
Festival will be organised. In early August 2019, a tender from a security company is accepted and a down payment is made. The director has purchased additional security services from the security company on behalf of the foundation on 15 August 2019 (the day before the start of the festival) and on 19 August 2019 (the day after the festival).
The weather is very bad during the festival. Audience attendance is much lower than expected. Income from coin sales is very disappointing. The foundation is unable to pay all creditors. Available funds are still being distributed to creditors. In that context, the security company receives 15% of the outstanding invoice amounts. In October 2020, the foundation was declared bankrupt.
Foundation director liable to creditor?
The security company holds the director personally liable for the unpaid invoice amounts. These include amounts arising from the acceptance of the first offer, but also the amounts that have become due as a result of giving the (additional) orders of 15 and 19 August 2019. As the director disputes the liability, proceedings will be initiated against him.
The legal framework for directors’ liability
The court sets out the legal framework for external directors’ liability. A director’s liability can only exist if he can be blamed for a serious personal wrongdoing. The court logically refers to the standard from the Supreme Court’s Beklamel judgment and considers:
“There can be serious personal culpability on the part of a director, leading to outside directors’ liability, if, when entering into that commitment, he knew or ought reasonably to have understood that the company would be unable to fulfil its obligations and would have no recourse, except in circumstances to be adduced by the director on the basis of which the conclusion is justified that no serious reproach can be made against him personally in respect of the wrongdoing (see, inter alia, HR 6 October 1989, ECLI:NL:HR:1989:AB9521, NJ 1990/286 (Beklamel)). In essence, this so-called “Beklamel criterion” entails the requirement that the director knew or should have understood, when entering into the commitment, that the company’s creditor would suffer damage as a result of his actions (see HR 5 September 2014, ECLI:NL:HR:2014:2627).”
You can read more about the Beklamel standard here.
Did the director know or should have known that the foundation could not fulfil obligations?
The court assesses whether, at the time the obligations were entered into, the director knew or should have known that the foundation would not be able to fulfil its obligations to the security company. The court sees no harm in entering into the first offer. At that time, the director could not have known that coin sales during the festival would be severely disappointing due to unusually bad weather.
The assessment is different regarding the commitments made on 15 and 19 August 2019. According to the court, the weather forecasts on 15 August 2019 for the following days were already bad. Thus, the director should have realised that, due to the predicted bad weather, attendance would be low and revenue from coin sales would be disappointing. At the time of signing the tender for additional work on 15 August 2019, the director should have reasonably understood that the foundation would not be able to meet its obligations to the security company. The same applies to the order given on 19 August 2019. At that time, the festival had already been held, so the director certainly should have reasonably known that the revenues were much lower than the budget.
Director ordered to pay damages
Thus, because of the wrongful act committed against the security company, the director is personally ordered to pay the invoice amounts arising from the orders given the day before and after the festival (to the extent that they have not been paid).
The ruling has strong similarities with a judgment of the Amsterdam Court of Appeal concerning the festival 200 years Stadsrechten in Zaandam. That case also concerned a rained-out festival, where the director had still entered into obligations when (according to the court) he should have understood that the foundation would no longer be able to fulfil the obligations. In that case, too, the verdict was that the director was personally liable.
VAT in claim for damages?
The security company also claimed the VAT amounts from the unpaid invoices in its claim for damages. This was also defended by the director. The director disputes that the VAT would have been remitted and furthermore, the security company could reclaim this VAT. This has not been refuted by the security company. The court therefore honoured the director’s defence on this point. Again, this judgment is not surprising.
The director could also have argued that there is no VAT-taxed supply against the compensation. VAT is only charged on compensation for goods or services. It is only because of the fact that the security company suffers damage that the compensation is claimed. Therefore, this is not a VAT-taxed supply.
If it is certain that a receivable is irrecoverable, the VAT already paid from the relevant invoice can be reclaimed from the Tax Authorities. In any case, a claim will be considered uncollectible as soon as 1 year has passed since the final payment date.
Incidentally, a claim for compensation may be subject to VAT under certain circumstances.
External liability director foundation
The case discussed concerned external liability towards one creditor. The claim was based on the tort law article (Section 6:162 of the Civil Code) and the legal framework was further developed in case law (jurisprudence).
Act on Management and Supervision of Legal Entities and directors’ liability for foundations
In the area of liability of foundation directors, quite a lot has changed with the introduction of the Management and Supervision of Legal Entities Act 2021. Section 2:138(1) of the Dutch Civil Code, concerning liability of a director of a public limited company for clearing the estate deficit if the bankruptcy was caused by improper management, now applies to all foundations. Previously, the liability scheme only applied mutatis mutandis to foundations subject to corporate income tax.
Presumption of directors’ liability for a foundation
Article 2:138 paragraph 2 of the DCC contains a presumption of proof that the bankruptcy was caused by improper management if there is a failure to file annual accounts or if the obligation to keep administrative records has not been met. This presumption of proof only applies (by virtue of Article 2:300a paragraph 2 of the DCC) to the foundation in the following cases:
- a foundation subject to corporation tax; or
- a foundation required by or under the law to prepare financial statements that are equal or equivalent to annual accounts.
You can read more about the presumption of evidence and the possibility of overturning it here.
The volunteer director of a foundation because of idealistic objectives
Thus, a board member of a foundation should be aware that there is a lot of responsibility involved in the board position and that board liability may be lurking under some circumstances. This can apply to a large commercial foundation with a professional board, but also to the small foundation with an (unpaid) board member who only wants to contribute because of idealistic objectives. People who want to take on such a board position should reconsider whether they are suitable for it. This was therefore one of the objectives of the new legal regulation.
Incidentally, the court still has the option to moderate the director’s liability. You can read more about that here. Possibly, the court will be a bit more lenient in the case of the unpaid director (and who, incidentally, has not enriched himself either) who took up the position because of idealistic objectives.
Corporate and insolvency law lawyer in Rotterdam
If you have questions about directors’ liability or have a conflict with a receiver, please contact Peter de Graaf.
