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Navigating Director’s Duties and Liabilities
Directors have the responsibility of steering companies through many challenges, including financial instability and potential insolvency. However, with this comes the potential for personal liability if directors fail in fulfilling their obligations. In this article, we go into the fundamental duties of directors and the potential liabilities they face during periods of financial strain.
Understanding Director’s Duties
Directors in Australia are bound by a number of statutory and common law duties designed to ensure they act in the company’s best interests. These duties include:
- Duty of Care and Diligence: Directors must apply their powers and discharge their duties with the judgment and diligence expected of a reasonable person under similar circumstances.
- Duty of Good Faith and Proper Purpose: Acting honestly and in good faith, directors must prioritise the company’s best interests and refrain from using their position or insider knowledge for personal gain.
- Duty to Avoid Conflicts of Interest: Directors must steer clear of scenarios where their personal interests clash with those of the company. Should a conflict arise, disclosure and abstention are important.
- Duty to Prevent Insolvent Trading: Directors have the responsibility of protecting the company from trading while insolvent.
- Insolvent Trading: A risk confronting directors during financial distress is personal liability arising from insolvent trading. This happens when a company accrues debts while insolvent or spirals into insolvency due to such debts. Directors who permit insolvent trading may find themselves personally liable for the company’s debts accrued during this period.
To measure a company’s solvency, its cash flow and overall financial health need to be examined. If a company trades while insolvent, it may violate civil and criminal provisions of the Corporations Act, putting directors at personal risk.
Safe Harbour Regime
Directors can protect themselves from personal liability for insolvent trading by taking advantage of the safe harbour regime, which requires them to initiate a credible turnaround plan and meet certain conditions, such as ensuring timely payment of employee entitlements and adherence to tax reporting obligations.
Directors can optimise the benefits of the safe harbour regime by:
- Staying Informed: Maintaining vigilance over the company’s financial health and monitoring critical metrics.
- Engaging a Turnaround Specialist: Having the expertise of qualified restructuring adviser to devise a turnaround strategy.
- Taking Proactive Measures: Implementing strategic initiatives outlined in the turnaround plan, incorporating operational improvements and stakeholder engagement.
- Engaging Stakeholders: Adopting transparent communication with banks, financiers, and key stakeholders to gain support and foster collaboration.
- Showing Patience and Persistence: Recognising that the turnaround process takes time and showing determination to achieve a positive result.
If the safe harbour regime is not appropriate , directors may consider other options such as voluntary administration or Small Business Restructuring Plan. These solution that allows companies facing financial troubles to reorganise, restructure or sell their business with the help of an independent administrator for Small Business Restructuring Practitioner.
Next week we cover Director Debit Loan Accounts and the ATO’s Director Penalty Regime and we will explore further the strategies for safeguarding directors against personal liability amidst the turbulence of financial distress.
If you have a client facing financial difficulties and needs to turn things around, contact us today to set up a meeting. We’re experts in financial restructuring and in the other turnaround strategies needed to get a business back on track.
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