When all else fails and a business finds themselves on the brink of insolvency, the director of a company may have no choice but to seek professional advice on completing a liquidation. Insolvency simply means that a business can no longer pay its company debts as and when due to payment – a feeling all too familiar for many business owners.
Types of Company Liquidation
There are three essential types of liquidation that a business may fall into during insolvency:
- Creditors Voluntary Liquidation — This sort of liquidation occurs when insolvent companies’ shareholders initiate it. A liquidator can take control very quickly, and handle the entire process without much difficulty. The directors will still need to assist in some respects, but they will maintain no control over the company’s goings-on.
- Members Voluntary Liquidation — The director of a company and its shareholders initiate this sort of liquidation; all members of the business must agree upon the terms of this type. Again, the director will need to offer the appointed liquidator some assistance here and confirm the company has sufficient assets to meet all liabilities in full.
- Court Liquidation — This is certainly the worst type of liquidation in which a company can find itself. It happens when a creditor or shareholder applies and receives a court order; at that point, the court will appoint a liquidator and the process will be handled with or without the director’s assistance. This can prove very unconformable for a director personally. Also, where a company is compelled into liquidation, it is more likely that claims of insolvent trading may be made.
The Insolvency Experts offers information sheets on the different types of insolvency, so both directors and shareholders can get a grip on which type of liquidation best serves them once they have reached insolvency.
The Insolvency Experts is comprised of qualified professionals that have operated within the insolvency industry for over 50 years; it’s a great resource for directors who want to ensure that they’ve done everything possible to comply with regulations concerning their positions.
In addition to serving as a resource about different types of liquidation, the Insolvency Experts can also offer directors guidance on how they might be able to change the course of their company when it appears that it’s headed toward insolvency.
How Different Types of Liquidation Affect Directors
Much of how liquidation affects a company’s director depends on that director’s practices prior to the liquidation, namely whether the director upheld their legal duties. While we’ll dive deeper into that topic, later on, let’s first take a look at how directors can expect each type of liquidation to play out.
During any type of creditors voluntary liquidation, directors are expected to assist the liquidator and insolvency practitioner in any reasonable way necessary. Although the liquidator has actually taken control of the company at this point, the director is still required to supply them with all necessary supporting documents, like books and records.
Additionally, the director must be able to list any liabilities and assets that the company has at the time of insolvency, and explain the company trading and any uses of its funds. These points become extremely critical when assessing the director’s personal liability; this is because a director has to have a verifiable explanation for every move the company has made, since they’re expected to maintain current knowledge of the company’s financial status.
At this point, directors can expect secured creditors (meaning those that have a secured claim to the business’ assets) to collect on their debts or assets if possible. Fortunately, this is the only type of creditor that can collect once a business enters insolvency. In this way, liquidation can save a company (and indeed, its director) from further losses. Basically, a business has to know when to say when and just fold, or they could end up in a far more dire situation.
Still, there is another option if a business has not yet entered a state of irreparable insolvency: voluntary administration. This is a sort of good faith agreement wherein a voluntary administrator, usually with the assistance of the director, will take control of a company and its trading habits for around a month to try and turn things around.
During this period, directors draft a proposal to be sent to creditors; the proposal will offer a higher return to the creditors than what they would see should the company be liquidated. Essentially, voluntary administration is a last-ditch effort to save a company from liquidation. It buys the company some time to drum up the money they owe, and it’s incentivized with extra capital to creditors.
If creditors agree to the proposal, directors simply have to make sure that they find a way to hold up their end of the agreement; this promise can prove difficult to keep, but it can save the business for the time being. In some cases, creditors either won’t agree to the proposal, or the proposal won’t be completed as outlined. At that point, liquidation is simply inevitable.
Directors Duties When Solvency Comes in Question
It’s no surprise that directors are left to explain things when a company enters a state of insolvency. Of course, the most basic of these duties is to simply maintain accurate books and records so that they are able to stay aware of the company’s financial situation at all times.
Beyond that, directors must also take an active role in mitigating any potential questions about a company’s solvency. They need to question inconsistencies, and seek the help of qualified professionals when they’re unsure of how to proceed.
While these duties might go without saying for some directors, others let their responsibilities slip (whether accidentally or intentionally) and find themselves in a slippery situation.
When Directors Become Personally Liable
Under the Corporations Act, directors are expected to be diligent and careful as they act in good faith toward a proper purpose for the company. Naturally, this means that if a director acts in a way that is self-serving or somehow harmful to the company, they have violated their role and their duties, leaving them vulnerable to liability.
One of the simplest ways that a director can fail to uphold their duties is if they do not keep 7 years of accurate records as is required by law. While this is obviously poor practice for a director in general, it becomes especially dangerous if a claim of insolvent trading is made.
Insolvent trading is the practice of incurring further debt and continuing trading as usual when the director knows that the company is insolvent and unable to pay its debts. The problem is, even if no insolvent trading occurred, a director has no defence against the claim if they haven’t kept accurate records for the required period of time.
Unfortunately, without the necessary documents to back the director up, their assets can be claimed in this sort of battle. If the claim alleges high enough losses, the director may even have to file for personal bankruptcy.
While simply failing to keep detailed records is one thing, intentionally engaging in insolvent trading is another altogether. If a director is aware that a company isn’t solvent, yet continues trading as usual, they’re committing a serious miscarriage of their duties, and can certainly be held personally liable.
With the potential for personal assets to be seized, directors need to be especially mindful of their companies’ financial situations. If there’s any question of solvency whatsoever, a director should gather adequate documentation to prove that they had reason to believe that the business was still financially viable.
This way, the director may be protected from personal liability, even if the company does eventually become insolvent and claims of insolvent trading are made. For extra diligence, it’s a good idea for the director to reach out to an industry professional that can assist them with verifying a business’ current solvency, and can show that the director acted in good faith.
Complying with Regulations
So long as a director fully understands their duties and has performed them to the specifications described in the Corporations Act, they shouldn’t have much of anything to worry about when it comes to personal liability for their company’s insolvency.
Still, there are instances in which a director has unwittingly failed to meet one of these duties completely, and they are blindsided with an attempt to go after their personal assets. Rather than leave anything up to chance, a director should make a habit of consulting a service like The Insolvency Experts so they can enjoy peace of mind that they’re performing their jobs satisfactorily.
A director that operates with integrity shouldn’t have a hard time avoiding the potential personal burden of insolvency, but it’s impossible to be too careful in these situations. Rather than leave anything up to chance, contact us to ensure compliance, and thus ensure the protection of personal assets.
If you need help, call The Insolvency Experts on 1300 767 525