Over the last 28 years practising law, I have on many occasions been involved with advising clients in regard to ways to protect their personal assets. One of these ways was often when they were entering into business ventures to ensure that they were not acting in any personal capacity to protect their personal assets. That may be by way of corporate trustees for trusts, companies or to ensure that they did not own valuable assets personally.
Over those 28 years the protection that would avail itself to directors of companies from liability for their company’s actions or inactions has continued to be eroded. It now arguably sits that there is limited protection to a director from many of the liabilities their company may face. In this article, we will look at some of that exposure to liability and the consequences that can play out in that regard.
Different types of personal liability
Even though a company is a separate legal entity meaning that other parties can sue it directly and the directors are the critical decision makers with control over the company, they are only liable for the company’s actions in certain circumstances.
There are generally three broad categories of situations where directors will be personally liable for their actions or inactions of the company, this is often regardless of whether the director had knowledge of it or was in any way personally involved with the decisions or actions of the company.
- Personal guarantee
Directors often provide personal guarantees for the company’s debts or other obligations. This may be, for example, the borrowing of money from a bank or signing a personal guarantee for a supplier to the company to extend credit for the supply of goods or services. The terms of the guarantee will often require the director to be personally liable for the company’s debt or liabilities that could accrue under the agreement and will, in some circumstances, require the provision of security over personal assets of the director.
- Statutory guarantee
In these circumstances the law often makes a director automatically personally liable for a company’s liability. The main example where this plays out is with the Australian Taxation Office. If a company does not fulfill its obligations to pay goods and services tax, PAYG and superannuation guarantee charges, the directors of the company can be personally liable. This can also be found with liabilities relating to breaches of occupational health and safety laws where directors can be personally liable for a breach of duty to exercise due diligence in relation to work health and safety. There are significant penalties including possible imprisonment and substantial fines under this legislation.
- Breach of Directors Duties
If a director has not acted in accordance with their legal duties in their control of the company, they can be personally liable. For example, if a company trades while it is insolvent, (that is, the company cannot pay its debts when they are due) a director may be personally liable for any debt that is incurred by the company whilst it is insolvent. Directors can face civil and criminal penalties for breach of director’s duties.
Directors cannot avoid responsibility by relying on others to manage the company for them. Each director has a separate duty to the company, regardless of their specific responsibilities within the business or their knowledge and skills.
Personal liability can also extend to individuals who are shadow or defacto directors who unofficially control or influence the company and play the role of a director without a formal title.
In our article last month, After years of waiting, the ATO is coming, we discuss the ramifications of director penalty notices (DPN) issued by the Australian Taxation Office. It should be noted that if directors receive a DPN, they should pay the tax debt or take immediate steps to restructure the business which may include placing it in administration or liquidation.
Who can commence proceedings against a director for these claims?
If a director breaches their obligations or duties to the company or under the Corporations Act, proceedings may be commenced against them by the company or its shareholders, third parties including creditors, or regulatory authorities such as ASIC.
How long is a director is liable for a company?
Once a company is registered, it’s separate legal status, property, rights and liabilities continue until it is deregistered. The obligations of a director may continue even after the company has ceased trading and has been deregistered. Resigning as a director will relinquish you from liability for events that occur after that date, but you could still be liable for events that occurred before your resignation even though you are no longer a director.
Are directors liable for debts incurred by companies acting as trustees?
If you are a director of a company that is acting as a trustee of a trust, you may still become personally liable for liabilities incurred by the company. If the trustee company breaches the terms of the trust, the trustee company acts outside its scope and powers of the trustee, the terms of the trust deny or limit the trustee company’s right to be indemnified against the liabilities or the trust does not have sufficient assets to provide the director indemnification and reimbursement.
What are the consequences of failing to perform director’s duties?
If you have failed to perform your duties as a director, you may:
- be investigated, charged and convicted of serious criminal offence;
- have contravened a civil penalty provision of the Corporations Act and a court may order you to pay a fine;
- be personally liable to compensate the company or others for any loss or damage they suffer; and/or
- be disqualified from being an officer of a company, that being a director or secretary and an office bearer of the company.
Are shareholders liable for company debts?
The members of a limited company are not liable in their capacity as shareholders for the company’s debts. As shareholders, their only obligation is to pay the company any amount unpaid on their shares if they are called on to do so, however, members who are also directors may be personally liable under certain circumstances due to their capacity as a director as detailed herein.
As you can see from the breadth of potential liabilities directors now face, the corporate veil that was once a strong protection for directors of companies has been significantly eroded. Directors should be aware of their responsibilities and potential exposure for liability and ensure that they are fully informed of the operations of their company. If you require any assistance as a director of a company to either obtain records of the company to ensure you are being informed or are facing potential liability or risk, please contact Lynn and Brown Lawyers to speak to our commercial team and obtain appropriate advice.
About the Author: This article has been authored by Steven Brown. Steven is a Perth lawyer and director, and has over 20 years’ experience in legal practice and practices in commercial law, dispute resolution and estate planning.
