Czech legal loophole places insolvent directors at risk

Czech Republic

In the Czech Republic, enforcement of claims against directors or other corporate bodies by way of a formal procedure such as execution or discharge of debts is rarely discussed, but major differences exist in enforcement of court decisions and insolvency between regular employees and directors. Legally speaking, directors are less protected than employees and at risk of having their income seized as a result of insolvency. 

Under Czech law, a director is a statutory body of a company and is not viewed as an employee. This is an important distinction since the legal relationship between a director and a company is of a purely commercial nature, and not one governed by employment law.

Since claims can only be enforced by law, a debtor with regular employment income will usually have deductions made from his income. In practice, a bailiff orders an employer to make specified deductions from the debtor’s salary each month. The law offers the debtor protection by stipulating an “unseizable sum”, which is the minimum amount covering an employee's basic needs that cannot be deducted.

The law contains a list of income types that are subject to the same enforcement rules as salary. Remuneration of directors is not included in this list, however, and the law effectively prohibits salary deductions.

The director’s income is subject to a different method of deduction equal to business receivables where no “unseizable sum” threshold applies and a director's entire income can be affected. If the director does not have any other employment income (which is rarely the case), the law does not provide him with a source to cover his basic needs.

This was an unintentional result by lawmakers and a classic example of a loophole in a law: a loophole with drastic consequences for directors and other individuals serving as corporate bodies.

One solution for a director who is in debt may lie in reaching a payment agreement with the bailiff through an instalment plan. But the bailiff is not obliged (and possibly not authorised) to accept such an agreement. In our experience, however, bailiffs are often willing to agree on payment through an instalment plan considering that otherwise a director would have no other alternative, but to quit his job and find other employment, likely at a lower salary.

The situation for a director under insolvency is similar since Czech insolvency rules are based on the principle that income is seized in the same manner as out-of-insolvency enforcement. Practically speaking, this means that if a director goes bankrupt, his entire director's income can be seized.

Although the director can ask the insolvency court to agree to a lower monthly instalment amount, the court is not bound by this request. A reasonable judge should not, in our view, ignore this issue and should grant this director the right to keep a portion of his income for the basic needs of his family. 

Gambling on judicial leniency, however, is not a solution. We advocate changes to the law to provide directors with the same level of protection as employees and other individuals with regular income (i.e. income that represents their sole livelihood).