When is a director liable for Company debts?
A director can be liable for company debts in the following areas:
Insolvent trading occurs when a company incurs a debt that it is unable and fails to pay, at a time when a director knew, or should have known, that the company was insolvent. According to the Corporations Act (the Act), all directors have a duty to prevent insolvent trading. The Act makes a director liable to pay compensation equal to the amount of the debt.A liquidator has the ability to demand a director to compensate them for the amount equal to that of the debt incurred when the company was insolvent.
The Act also provides directors with the following defences:
Reasonable grounds to expect that the company was solvent at the time the debt was incurred.
They did not at the time participate in the management of the company due to illness or another good reason.
They took all reasonable steps to prevent the debt from being incurred by the company.
Unreasonable director-related transaction
Directors are liable to compensate a company for loss if they have caused the company to enter into a director-related transaction that would result in an ‘unreasonable benefit’. Director-related transactions include:
Payments of money made by a company
Securities issued by the company
Incurred obligations to make such transactions
Conveyances, transfers, or other dispositions of company property
In order for the transaction to be considered ‘director related’, a transaction must involve either:
A director of the company
A close associate of a director of the company
A ‘nominee’ acting on behalf of, or for the benefit of, a director or their close associate.
A transaction will be considered unreasonable if a reasonable person in the same situation as the company would not have entered into the same transaction after considering the benefits, detriments and any other relevant matters.
Loss of Employee Entitlement Claims
Employees and liquidators have the right to make claims against a director if a company has entered into a transaction that has reduced the amount of assets available to the company to pay its employees priority entitlements.
According to section 596AB of the Act:
‘A person must not enter into a relevant agreement or a transaction with the intention of, or with intentions that include the intention of:
(a) preventing the recovery of the entitlements of employees of a company; or
(b) significantly reducing the amount of the entitlements of employees of a company that can be recovered.’
The amount recoverable is equal to the ‘loss’ caused by entering into that transaction. The loss itself is limited to the amount of employee entitlements that cannot be paid.
Directors can be held liable for their company’s PAYG liability and any unpaid Superannuation contributions. This liability can be imposed on any person who was a director at the time the tax should have been paid, regardless of whether the person is still currently a director.
A personal guarantee is a separate third party agreement between the director and a creditor. A personal guarantee remains valid, regardless of the actions of liquidators or administrators. However, a personal guarantee cannot be exercised whilst a company is under voluntary administration.
If the director satisfies all debts owed to the creditor under the personal guarantee, the director is able to assume any legal rights that the creditor may have had in regards to a claim over the company.
If you require any assistance or further information in regards to the above article, please do not hesitate to contact The Quinn Group on (02) 9223 9166 or submit an online enquiry.
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