Safe Harbour granted to proactive Directors not merely ‘living in hope’

Amendments to the Corporations Act 2001 (Cth) (Corps Act) introducing the safe harbour insolvency provisions come into effect on 1 July 2018.  Under section 588G of the Corps Act a director of a company may be personally liable for debts incurred by the company if at the time the debt is incurred there are reasonable grounds to suspect the company is insolvent.  The section 588GA safe harbour provisions aim to encourage directors to remain in control of a business in financial difficulty and to take reasonable steps, outside of a formal insolvency process, to restructure and / or allow it to trade out of its difficulties in anticipation that such action will achieve a better outcome for the company than immediately appointing an administrator or liquidator.  The provisions encourage directors to closely monitor the financial position of the business, engage early with financial distress and then actively take steps to either restructure the business or, if that is not possible, to move quickly to formal insolvency.  

The safe harbour provisions inserted into the Corps Act?

A director is given a safe harbour against breaching section 588G(2) of the Corps Act (allowing a company to incur a debt whilst it is insolvent) if, after the director starts to suspect the company may become or be insolvent, one or more courses of action are developed that are reasonably likely to lead to a better outcome for the company and the debt was incurred directly or indirectly in connection with that course of action.   Better outcome is defined as an outcome that is better for the company than immediate appointment of an administrator or liquidator of the company.

What are the requirements for a director to obtain the safe harbour protection?

• Be properly informed about the company’s financial position.
• Take appropriate steps to prevent any misconduct by company officers and employees that could adversely affect the company’s ability to pay all its debts.
• Ensure the company is keeping appropriate financial records.
• Ensure employee entitlements are being paid.
• Ensure compliance with the Income Tax Assessment Act 1997 (Cth).
• Put in place a course of action to address the company’s financial circumstances reasonably likely to lead to a better outcome than proceeding to administration or liquidation.
• If the company is placed into liquidation, comply with section 588GB of the Corps Act in allowing inspection and / or delivery of books of the company and providing information about the company.

What are the limitations of the safe harbour defence?

“Hope is not a strategy” – directors need to be proactive when first suspecting the company may become or be insolvent, take concrete steps to assess the company’s financial position and if it is reasonable to do so, implement a course of action to address the situation to enable the company to continue to trade.

How will this affect businesses in the future?

Directors of companies on the brink of financial failure are more likely to act sooner rather than later in engaging in a formal insolvency process, knowing that doing nothing or implementing a restructure or course of action that does not have reasonable prospects of achieving a better outcome for the company, will mean they will not have the protection of the safe harbour provisions.

Takeaways

When a company is insolvent or is on the brink, its directors now have the option to implement a genuine rescue strategy without fearing personal liability for debts incurred by the company during the implementation of that strategy.

Links and further references

Legislation

Corporations Act 2001 (Cth)

Explanatory Memorandum, Treasury Laws Amendment (2017 Enterprise Incentives No 2) Bill 2017

Treasury Laws Amendment (2017 Enterprise Incentives No 2) Bill 2017

Related insights

Directors’ Duties in Australia

Directors’ Duty to prevent insolvent trading

Shadow directors and de facto directors

Can a third party be made to account for a breach of director’s duties?

Further information about directors duties

If you need assistance regarding the duties owed by directors, contact Dundas Lawyers Gold Coast for a confidential and obligation-free discussion:

Disclaimer

This article contains general commentary only.  You should not rely on the commentary as legal advice.  Specific legal advice should be obtained to ascertain how the law applies to your particular circumstances.