Manager's need to be wary of their personal liability when making decisions for the firm

The possibility of partners and members incurring personal liability is not a new concept. However, while liability arising from the provision of services to clients is a subject we are all familiar with, far less has been said about individuals incurring personal liability as a consequence of their internal management of the firm's affairs.

In times of economic difficulty, when managing partners and management committees are forced to take tough decisions, the judgment of Bernard Livesey QC in Philip Tann v Clive James Herrington is a timely reminder of the personal liability that can result an internal management function.

Tann and Herrington carried on business in partnership until 31 March, 2001 when the partnership was dissolved.  Although much was agreed in relation to the dissolution, one unresolved issue was, if damages paid to a client when professional indemnity insurers refused an indemnity due to the fault of one of the partners, whether this was a liability of the firm or if it was to be borne personally by the partner at fault.

During the partnership, Tann did not involve himself in the business affairs of the firm; Herrington was responsible for matters of internal management including dealing with all aspects of the firm's professional indemnity insurance.

The firm had provided services to Mr and Mrs Carter and, putting it simply, things had not gone well.  In December 2000 the Carters wrote to the firm stating that they regarded the firm as at fault and responsible for the losses they had incurred. Herrington denied responsibility on behalf of the firm but, on 15 May, 2001, he received a letter from solicitors acting for Mr and Mrs Carter stating that they had been instructed to pursue a claim against the firm for negligence and/or breach of contract. 

Herrington replied to the claim within a matter of days, denying liability but did not, as he said he would, notify the firm's insurers of the potential claim. Matters proceeded slowly thereafter, but on 24 January, 2004, the Carter's solicitors provided a copy of an expert's report and stated that they were instructed to issue proceedings. 

It was at this point that Herrington notified the firm's insurers. The policy of insurance then in place was effective from 24 January, 2004 and was the usual 'claims made' policy. The insurers declined cover because the claim was first made in May 2001, prior to the date of the policy in force, and because, in any event, the existence of the claim had not been disclosed when the firm had made the insurance proposal which had resulted in the 24 January policy.

Mr and Mrs Carter duly commenced proceedings and Herrington instructed third party solicitors to defend the claim on behalf of the firm.  In due course, Herrington settled the claim against the firm on terms which involved a payment of £226,000 made to Mr and Mrs Carter.

It was not until late 2006, in the course of ongoing discussions relating to the final account of the dissolved partnership, that Tann became aware of the claim made by Mr and Mrs Carter or the settlement agreed by Herrington. Upon suggestion that Tann's entitlement in the final account should be reduced to reflect his share of the settlement payment, the issue of who was liable for the loss came to be determined by the court.

Herrington argued that the settlement payment was a liability of the partnership and, therefore, Tann was to bear his share of such payment in the drawing of the final account. Tann disagreed, arguing that the necessity for the payment was caused by Herrington's breach of the duty of care he owed to Tann, namely, his failure to notify the insurers of the claim, and that Herrington should bear all liability for the settlement payment.

In his judgment, Bernard Livesey QC found that Herrington owed the firm a duty to exercise reasonable care, which required compliance to an objective standard. He went on to say that if he was wrong about the extent of the duty, even if the duty owed was a lesser duty to act as he would in relation to his personal affairs, Herrington had breached such duty. His failure to report the claim to the insurers was "culpable of gross negligence".  Accordingly, Herrington had breached the duty he owed to Tann and was to be personally liable for all the £226,000 settlement payment.

This is a stark reminder that individuals owe a duty to exercise reasonable skill and care in the performance of internal management functions and that, given the tough decisions that have to be made in this economic climate, including forced retirement of partners, de-equitisations, employee redundancies and so on, a breach of that duty could have very serious personal consequences for those with managing responsibility.

Partners, members and particularly individuals in management positions ought to consider carefully the extent to which an exclusion or limitation of personal liability is appropriate for those that are asked to manage the business.  Partnership and LLP members' agreements commonly address limitations on the liability of individuals for negligence when carrying out work for clients; perhaps now is an appropriate time for the same attention to be given to whether similar levels of personal protection be given to individuals managing the affairs of the business.

Clive Greenwood is joint head of the partnership and the LLP law group at Lewis Silkin.