Company directors during liquidation
While a qualified liquidator is in charge of the company liquidation process, company directors, board members and shareholders are not free of responsibility. For example, even though a director’s powers cease upon the liquidator’s appointment, the directors are required to assist the liquidator in all matters arising in the liquidation and are to deliver to the liquidator all assets and records of the company.
There are several other things that company officers, directors especially, must know when it comes to company liquidation.
Company liquidation personal liabilities
During the company liquidation process, directors are not typically at risk of automatically going bankrupt because personal finances are not tied to a company. However, there are several ways a director facing company liquidation can be made personally liable for its debts.
Personal liability can potentially extend the company liquidation process and even cause personal insolvency depending on their nature. And even if directors have taken due care and remedial action to resolve financial problems of the company, personal liability still holds up as a consequence as one of the fundamental duties of a director of any company is to ensure that the company does not trade while it is insolvent.
Insolvent trading claims are made by either liquidators or creditors and are made when it is believed that a company has continued to trade despite being insolvent. The director, if found guilty of insolvent trading, then becomes personally liable for any shortfalls to creditors that the liquidation of the company does not cover.
Being found guilty of insolvent trading will also lead to a director’s disqualification. The pact of insolvent trading is illegal under the Corporations Act 2001 (Cth), and can result in civil penalties against directors, including pecuniary penalties of up to $200,000. Compensation proceedings for amounts lost by creditors can be initiated by the Australian Securities and Investment Commission (ASIC), a liquidator or a creditor against a director personally. A compensation order can be made in addition to civil penalties. Compensation payments are potentially unlimited and could lead to the personal bankruptcy of directors. If dishonesty is found to be a factor in insolvent trading, a director may also be subject to criminal charges, which can either lead to a fine of up to $220,000 or imprisonment for up to five years. In certain situations, both can occur.
Directors may be personally liable for insolvent trading by the company if:
- A person is a director at the time a company incurs a debt;
- The company is insolvent at the time of incurring the debt or becomes insolvent because of incurring the debt;
- At the time the debt was incurred, there were reasonable grounds to suspect that the company was insolvent;
- The director was aware such grounds for suspicion existed; and
- A reasonable person in a similar position would have been so aware.
Loss of employee entitlements.
Because employees who lose their job as a result of company liquidation loose their source of income, they are also considered creditors during he liquidation process. A director may be held liable if the company enters into an agreement or transaction that reduces the assets available to pay employee entitlements. The agreement must be entered into with the intention of either:
- Preventing the recovery of employee entitlements; and
- Significantly reducing the amount of employee entitlements that can be recovered.
A director can be liable for any loss the company suffers by entering into the transaction.
Unreasonable director related transactions.
These claims are made by the liquidator during liquidation and are made when a company gives a director, their close associate or their nominee an unreasonable benefit. These include payments made to certain creditors in the six months before liquidation in favour of others. Examples for this include making large payments to the ATO, or repaying director or related-party loan accounts. A liquidator can recover these payments from the creditor directly. If there is no benefit to the company, it could be unreasonable. For example, sale of shares for less than market value. According to the Corporations Act 2001 (Cth), “… if it may be expected that a reasonable person in the company’s circumstances would not have entered into the transaction having regard to the benefits (if any) and detriment to the company entering into the transaction and also the benefits to the other party to the transaction.” The director can be liable for any loss the company suffers by entering into the transaction.
Unpaid Taxation/Superannuation debts
It is a company director’s responsibility to be fully aware of their financial position and to have clear knowledge and reasonable grounds to suspect whether or not the company is trading whilst insolvent. As a result, any unpaid taxation or superannuation debts are liabilities and all legal protection structured around the directors (e.g. discretionary trusts, etc) may not apply. If a company can pay its debts when and as they fall due then they are solvent, and if not they are by definition insolvent. This liability usually falls upon the director; however, if there are parties carrying out directive duties without being officially appointed as a director, liability also rests with them. These are called “De Facto Directors” or “Shadow Directors”.
A person is classed as a Shadow Director when the company is “accustomed to act in the accordance with the person’s instructions or wishes”. In other words, a Shadow Director is someone who was not officially appointed as company director by a board, but engages in important company activities, makes decisions for the company and is generally seen as a director due to the influence or control they exert over business operations or director decisions.
Shadow Director are still required to fulfil a director’s company duties under law if they choose to identify as one. Therefore, despite the ‘back room’ nature of Shadow Directors, they could still be found personally liable for company debts in certain circumstances, and subsequently also face civil penalties for a breach of duties.