Someone recently bought our

students are currently browsing our notes.

X

Directors’ Statutory Duty To Prevent Insolvent Treading Notes

Law Notes > Business Associations Notes

This is an extract of our Directors’ Statutory Duty To Prevent Insolvent Treading document, which we sell as part of our Business Associations Notes collection written by the top tier of University Of New South Wales students.

The following is a more accessble plain text extract of the PDF sample above, taken from our Business Associations Notes. Due to the challenges of extracting text from PDFs, it will have odd formatting:

BA 16 Directors' statutory duty to prevent insolvent treading

Class 16 Corporations Act ss 588G588U. Note: Definition of insolvency in s 95A; definition of director in s 9. *
Redmond [7.135]7210] - [ages 385 - 399 DCT v Clark [2003]
NSWCA 91 Extracted in Redmond [7.210]. Liability under s 588G, H?

1. State test: Does s 588G apply? 5 elements. When the director fails to prevent the company from incurring the debt where five elements:

2. Req 1#: (a) director at time of incurring debt (s 9; time of incurring debt in s 588G(1A));

3. Req 2#: (b) company insolvent or becomes insolvent by that debt (definition of insolvency in s 95A);

4. Req 3#: (c) reasonable grounds for suspecting that company is insolvent, or would so become insolvent as the case may be;

5. Req 4#: (d) time is after commencement of act;

6. Req 5#: director aware at time of such grounds for suspecting insolvency (s 588G(2)(a)) or a reasonable person in a like position would have been so aware: s 588G(2)(b).

7. Any applicable defences? s 588H

8. Consequences of breach: s 588G(2) is a civil penalty provision: s 1317E(1) Liability to compensate company

9. Liability to compensate company? S 588J(order to pay compensation under s 588J may be enforced as if it were a judgment of the court: s 588L)

10. Criminal court could order compensation: s 588K(order to pay compensation under s 588K may be enforced as if it were a judgment of the court: s 588L)

11. Recovery of compensation for loss resulting from insolvent trading: s 588M

12. Avoiding double recovery: s 588N

13. Effect of ss 588J, 588K and 588M: s 588P

Proceedings by Creditor

14. Creditor may sue for compensation with liquidator's consent: s 588R

15. Creditor may give liquidator notice of intention to sue for compensation: s 588S

16. When creditor may sue for compensation without liquidator's consent: s 588T

17. Events preventing creditor from suing: s 588U

1. Liability under s 588G? (civil under s 588G(2), criminal under s 588G(3))
[Prelim: Was the person in question a director? See s 9 ]
Does s 588G apply? When the director fails to prevent the company from incurring the debt where five elements:

1. Req 1#: Needed to be a director at time when company incurs debt: s 588G(1) (a). When does a company incur a debt? Look to table: s 588G(1A)

2. Req 2#: Company is insolvent at that time, or becomes insolvent by incurring that debt, or by incurring at that time debts including that debt: s 588G(1)(b); a.

Definition of insolvency: s 95A

b. Note - incurred or imposed? Voluntary tax? Sales tax not voluntary. But payroll tax is because of voluntary act of hiring staff.

3. Req 3#: at that time, there are reasonable grounds for suspecting that the company is insolvent, or would so become insolvent, as the case may be: s 588G(1)(c)

4. Req 4#: that time is at or after the commencement of this Act: s 588G(1)(d)

5. Req 5#: Director must be aware at the time that there are such grounds for suspecting insolvency (s 588G(2)(a)) or a reasonable person in a like position in a company in the company's circumstances would be so aware: (s 588G(2)(b)): S 588G(2).

6. No applicable defences? s 588H. D against whom 5 elements proven bears onus in establishing any of the following defences: a. Defence 1#: That director had reasonable grounds to expect and did expect that Co would be solvent at that time and would remain solvent even if it incurred that debt: s 588H(2). b. Defence 2#: - if D had R grounds to believe that a competent and reliable person was responsible for providing info to the D about wether the co was solvent and that th other person was fulfilling their responsibility; and that person expected on the basis of the information provided that the co would remain solvent: s 588H(3) c. Defence 3#: If D, because of illness or other good reason did not take part at that time because of the management of the co: s 588H(4) Not a good reason that you have other duties and your husband runs the company: FCT v Clarke d. Defence 4#: If D took all reasonable steps to prevent the co incurring the debt: s 588H(5). (Court must take into account any action the D took re appointing an administrator of the co, when that action was taken, and the results of that action: s 588H(6)).

7. Criminal liability under s 588G(3)?

8. Consequences of breach: s 588G(2) is a civil penalty provision: s 1317E(1)

1. Was person a director?

Was X a director at time when company incurs

debt: s 588G(1)(a)?
X a director: see definition of s 9. X a director at time when company incurs debt? When does a company incur a debt?
Under s 588G(1A) 588G (1A) For the purposes of this section, if a company takes action set out in column 2 of the following table, it incurs a debt at the time set out in column 3. When debts incurred Action of company 1 paying a dividend

2 3 4 5 6

7 Req 2#: Co is insolvent at that time, or

making a reduction of share capital to which Division 1 of Part 2J.1 applies (other than a reduction that consists only of the cancellation of a share or shares for no consideration) buying back shares (even if the consideration is not a sum certain in money) redeeming redeemable preference shares that are redeemable at its option issuing redeemable preference shares that are redeemable otherwise than at its option financially assisting a person to acquire shares (or units of shares) in itself or a holding company entering into an uncommercial transaction (within the meaning of section 588FB) other than one that a court orders, or a prescribed agency directs, the company to enter into

Consider: (1) when was the debt incurred? And then (2) were they insolvent at that time OR did they become insolvent by incurring that debt?

When debt is when the divi the company provides for t divs, when th when the redu

when the buy entered into

when the com option

when the shar

when the agre the assistance if there is no the assistance when the tran into

(1) When the debt was incurred? Debt was incurred ___ (according to s

becomes 588G(1A)). insolvent by (2) Were they insolvent at that time? A person is insolvent when they are not incurring that able to pay back all of their debts as and when they become due and debt, or by payable: s 95A. (3) Did they become insolvent by incurring that debt?
incurring at that time debts including that For more on defining insolvency see 7.150 on pages 386 - 388 in the Redmond debt: s 588G(1) textbook. s (b);

Req 3#: Reasonable grounds for suspecting that co is insolvent or would become so by debt?

See in Hall v Poolman

* As a broad general rule a director would be justified in expecting solvency if an asset can be realized to pay acrused and future creditors in full within about ninety days.

* If th honest and reasonable answer is probably can expect to turn asset into cash to pay debts within 3 months - director has a reasonable expectation of solvency.

* If honest and reasonable answer is possible to no way of knowing - no reasonable expectation.

* If honest and reasonable answer is 'more likely than not' - then risky.

* If honest and reasonable aswer is 'no way of knowing yet when we will have the info to make a decision' director must' say that thus there is no way we can reasonably justify continuing ot trade without nknowing when we will know whether the company is insolvent. Call the adminidstrators' Req 3#: at that time, there are reasonable grounds for suspecting that the company is insolvent, or would so become insolvent, as the case may be: s 588G(1)(c)

*
a suspicion is more than a slight opinion without sufficient evidence. A reason to suspect that a fact exists is more than a reason to consider or look into the possibility of its existence: Queensland Bacon v Rees

*
Objective reasonable grounds which must be judged by standard appropriate to a director of ordinary competence: 3M Australia Debate:

*
(Note that in Metropolitan Fire Systems, the Court held that it was an Objective test and state of knowledge ofa particular director and any assessment which he may have made as to ability of company is irrelevant. Court makes own judtmen on basis of facts as exitsed at that time and without benefit of hindsight: Metropolitan Fire Systems

*
However in Standard Chartered Hodgson J held that the facts to be taken into account when assessing whethe there were reasonable grounds to expect that a company would not be able to pay its debts were not limited to fact which were reasonably capable of being known by a director but extended to all facts actually known to the director.

Req 4#: that

time is at or after the commencement of this Act: s 588G(1)(d) Req 5#: Director aware of grounds for suspecting co is insolvent or a reasonable person would be aware?

Director must be aware at the time that there are such grounds for suspecting insolvency (s 588G(2)(a)) or a reasonable person in a like position in a company in the company's circumstances would be so aware: (s 588G(2)(b)): S 588G(2). Ie two limbs: (a) was director subjectively aware of grounds for suspecting that company is insovlent? S 5882()(a) (b) would a reasonable person in alike position in a co in the co's circumstances be aware? S 588G(2)(b)? Co's circumstances include: the size and type of co, nature of enterprise, provisions of constitution, composition of board and distribution of work between board and other officers. (This s 588G(2)(b) branch similar to that in s 180(1)). (According to explanatory memo for pt 5.7B) Court might expect that:

directors would ensure in large company that one in their co would be talented in field of corporate financial management

that directors be able to read understand and seek any necessary clarification of key financial info put before board such as balance sheet and a profit and loss statement

that board ensure that appropriately skilled people are engaged to carry out the company's accounting functions

that board would reuire relevant accounting information to be supplied ahead of regular board meetings at which key financial decisions are to be made, and that where a significant borrowing is to be undertaken the management should supply the board with a statement of the co's current financial position as well as the particulars of the way in which the principal, interest and othe chages are to be serviced over the term of the loan

that board make arrangements for monitoring the use of any authorization granted in relation to the use of the company seal the entering into contracts with financiers or the singing of cheques and ills of exchange;

where nature of business may expose co to high risk of sudden liquidity restriction or co is known by director to be in a delicate $ position that even more extra car emay be adopted.

6. Any applicable defences? s

No applicable defences? s 588H. D against whom 5 elements proven bears onus in establishing any of the following defences:

1. Defence 1#: That director had reasonable grounds to expect and did

588H

expect that Co would be solvent at that time and would remain solvent even if it incurred that debt: s 588H(2) a. Term 'expect' imports higher degree of certainty than mere hope or possibility or suspecting. That defence requires an actual expection that Co was and would continue to be solvent and grounds were easonable.

2. Defence 2#: If person had reasonable grounds to believe that a competent and reliable person was responsible for providing info to the D about whether the co was solvent and that te other person was fulfilling their responsibility; and that person expected on the basis of the information provided that the co would remain solvent: s 588H(3); Manpac Industries a. D cannot rely upon statements from a consultant appointed to assist company survive threats to solvency when those statements were based on info supplied by D's themselves: Manpac (suggested main use of defence was for large corps with bulky systems and the need for delegation).

3. Defence 3#: If D, because of illness or other good reason did not take part at that time because of the management of the co: s 588H(4) FCT v Clarke - wife of family whose husband was director who was running the company - she was a passive director she never read and had an knowledge about what was happening - (sexually transmitted debt) - she was the one in whose name the assets of the company were placed. Q was she a director at time the liability to directors was incurred by company. She argued 'other good reasons' (wife of family and had other duties and that husband ran company se was not involved in decision to incur the debt.) Court held that she was still liable. (using Morley which was influential in Daniels v Anderson) - can't have a sleeping director. Not a good reason that you weren't involved. Total reliance no excuse. Directors have a duty to exercise reasonable care and diliegence in discharge of their duties with stnadrd being objective.

4. Defence 4#: If D took all reasonable steps to prevent the co incurring the debt: s 588H(5). (Court must take into account any action the D took with a view to appointing an administrator of the company, when that action was taken, and the results of that action: s 588H(6)).

7. criminal liability? If person committed contravention and was dishonest:

Under s 588G(3): A person commits an offence if: (a) a company incurs a debt at a particular time; and (aa) at that time, a person is a director of the company; and (b) the company is insolvent at that time, or becomes insolvent by incurring that debt, or by incurring at that time debts including that debt; and (c) the person suspected at the time when the company incurred the debt that the company was insolvent or would become insolvent as a result of incurring that debt or other debts (as in paragraph (1)(b)); and (d) the person's failure to prevent the company incurring the debt was dishonest. (3A) For the purposes of an offence based on subsection (3),

Buy the full version of these notes or essay plans and more in our Business Associations Notes.