BA 16 Directors’ statutory duty to prevent insolvent treading 1

1. Liability under s 588G, H? 3

2. Liability to compensate company? S 588J, K, M, N, P 7

3. Proceedings by Creditors? S 588R, S, T, U 7

4. Liability of a holding company for insolvent trading by a subsidiary company: liability in 588V, recover under s 588W, defences in s 588X 8

(a) Is there a holding company / subsidiary? 8

(b) Whether liable: s 588V 8

(d) Defences: s 588X 9

Reading Notes: The Duty: 7.135 – 7.210 18

Compensation remedies with respect to insolvent trading [7.190] 18

CB: 18

Class 16 Corporations Act ss 588G-588U. Note: Definition of insolvency in s 95A; definition of director in s 9. • Redmond [7.135]-7-210] – [ages 385 – 399 DCT v Clark [2003] NSWCA 91 Extracted in Redmond [7.210].

Liability under s 588G, H?

State test: Does s 588G apply? 5 elements. When the director fails to prevent the company from incurring the debt where five elements:
Req 1#: (a) director at time of incurring debt (s 9; time of incurring debt in s 588G(1A));
Req 2#: (b) company insolvent or becomes insolvent by that debt (definition of insolvency in s 95A);
Req 3#: (c) reasonable grounds for suspecting that company is insolvent, or would so become insolvent as the case may be;
Req 4#: (d) time is after commencement of act;
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).
Any applicable defences? s 588H
Consequences of breach: s 588G(2) is a civil penalty provision: s 1317E(1)

Liability to compensate company

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)
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)
Recovery of compensation for loss resulting from insolvent trading: s 588M
Avoiding double recovery: s 588N
Effect of ss 588J, 588K and 588M: s 588P

Proceedings by Creditor

Creditor may sue for compensation with liquidator’s consent: s 588R
Creditor may give liquidator notice of intention to sue for compensation: s 588S
When creditor may sue for compensation without liquidator’s consent: s 588T
Events preventing creditor from suing: s 588U

[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:

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)
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);
1. Definition of insolvency: s 95A
2. Note – incurred or imposed? Voluntary tax? Sales tax not voluntary. But payroll tax is because of voluntary act of hiring staff.
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)
Req 4#: that time is at or after the commencement of this Act: s 588G(1)(d)
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).
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 expect that Co would be solvent at that time and would remain solvent even if it incurred that debt: s 588H(2).
2. 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)
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) Not a good reason that you have other duties and your husband runs the company: FCT v Clarke
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 re appointing an administrator of the co, when that action was taken, and the results of that action: s 588H(6)).
Criminal liability under s 588G(3)?
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		[operative table]
	Action of company	When debt is incurred
1	paying a dividend	when the dividend is paid or, if the company has a const that provides for the declaration of divs, when the div is declared
2	making a reduction of share capital to which Division1 of Part2J.1 applies (other than a reduction that consists only of the cancellation of a share or shares for no consideration)	when the reduction takes effect
3	buying back shares (even if the consideration is not a sum certain in money)	when the buy‑back agreement is entered into
4	redeeming redeemable preference shares that are redeemable at its option	when the company exercises the option
5	issuing redeemable preference shares that are redeemable otherwise than at its option	when the shares are issued
6	financially assisting a person to acquire shares (or units of shares) in itself or a holding company	when the agreement to provide the assistance is entered into or, if there is no agreement, when the assistance is provided
7	entering into an uncommercial transaction (within the meaning of section588FB) other than one that a court orders, or a prescribed agency directs, the company to enter into	when the transaction is entered into

Req 2#: Co 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);

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 the debt was incurred? Debt was incurred ___ (according to s 588G(1A)).
Were they insolvent at that time? A person is insolvent when they are not able to pay back all of their debts as and when they become due and payable: s 95A.
Did they become insolvent by incurring that debt?

For more on defining insolvency see 7.150 on pages 386 – 388 in the Redmond textbook.

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

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...

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