Which Company Problems Lead to Pursuit and How to Minimise the Risk
In Australian law, a company and its director are separate entities.
Each has its own rights and obligations and is responsible for its own assets, liabilities and finances. Essentially, the company is treated like a person.
This legal distinction means that directors are generally protected from being personally liable for their company's wrongs and debts. However, there are exceptions where directors can be personally pursued for actions or losses.
Here are 5 ways directors become personally liable...
1. If You Breach Your Director Duties
As a company director, it’s important to understand your legal duties and obligations in this role. These duties are primarily set out in the Corporations Act 2001 (The Act). The key duties include:
- Exercising care and diligence in managing the company
- Acting in good faith and in the company’s best interests
- Avoiding conflicts of interest between yourself and the company
- Not improperly using information or your position
- Properly managing the finances of the company and ensuring it doesn’t trade while insolvent
- Helping in the winding up of the company
If you’ve breached any of these duties and your company suffers a loss or goes into liquidation, you can be held personally liable, including:
- Being prohibited from managing a company for five years
- Personal liability to compensate the company
- Five years imprisonment, a fine of up to $200,000 or both
2. If You Continue to Trade While Insolvent
If your company continues to incur debt when you can’t afford to pay your debts on time, you, as director, can become personally liable. This situation is known as insolvent trading under the Corporations Act 2001.
A creditor, ASIC or a liquidator can take legal action against a director for trading while insolvent. The consequences are the same as above as not properly managing your finances and trading insolvent are breaches of duty under the Act.
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3. If You’ve Provided Personal Guarantees
Have you provided security to a lender, landlord or supplier through a director guarantee when accessing credit for your company? If so, you’re personally liable for the debt if your company fails to meet its obligations under the loan agreement.
Under formal processes such as voluntary liquidation, your personal assets may become available to satisfy your company debts. This includes your family home. If your personal assets don’t cover the debt, you may face bankruptcy.
4. If You’ve Engaged in Illegal Phoenix Activity
If a company is liquidated, wound up or abandoned to avoid paying its debts, and a new company is then set up to continue the same business activities minus the debt, this is known as illegal phoenix activity.
A common example includes transferring your company’s assets to a new company, of which you are a director, for less than market value.
If you’re engaged in this type of activity, the liquidator of the old company can pursue claims against the new company for an undervalued transaction. The director can also be held personally liable for breaches of duty.
5. If Your Company’s Tax or Super are Unpaid
As a director, you’re responsible for making sure your company’s tax and superannuation obligations (PAYGW, GST and SGC) are reported and paid by their due date.
If you fail to pay these on time, you are personally liable, and the Australian Taxation Office (ATO) can recover these amounts from you as a current or former director.
The amounts you’re personally liable for are called director penalties. In this process, you’re first sent a director penalty notice to let you know about your debt. If you fail to take action, the ATO can recover the debt by:
- Issuing a garnishee notice
- Offsetting any tax credit against your director penalties
- Instigating legal recovery proceedings against you
Protect Yourself With Indemnity and Insurance
As well as properly managing your company and finances, you can protect yourself from personal liability as a director if you have a Deed of Indemnity.
A Deed of Indemnity is a legal agreement between you and your company. It includes the scope of director protection, access to relevant documents and Directors and Officers (D&O) Insurance.
Importantly, it only offers some protection. It won’t protect you:
- If you breach your director duties
- Against fraudulent, dishonest or criminal behaviour
- If you breach any other obligations under the Act
Avoid Personal Liability With the Right Actions
The best way to avoid putting yourself in the path of pursuit for personal liability is to keep on top of your finances, pay your debts on time and act with integrity in your position as director.
If you’re struggling to pay your debts and worried you may be trading insolvent or on your way to it, don’t stick your head in the sand. Speak to a specialist and your creditors and use the options open to you.
The small business restructuring process could be an effective way for your business to take back control of your company finances quickly and cost-effectively.
If your company is struggling financially and unable to pay its debts when due, complete our Instant Online Assessment, or get in touch with our team of specialists today on 1800 861 247, to discuss the small business restructuring process and other viable options.
