When are you personally responsible for your company’s debt?

[vc_row][vc_column][vc_column_text]Normally, where the law is concerned, a company and its director are separate entities, each with their own rights and obligations. As such, each body is responsible for their own assets, liabilities and finances – however, there can be cases where a director is ultimately responsible for the company’s debts.

These are some crucial examples to be aware of when a business faces financial turmoil or corporate insolvency. Even with the distinction between director and company, you could still lose your most important personal assets.

When are you personally liable for the debts of your company?When are you personally liable for the debts of your company?

Debts under corporate insolvency

While a company’s debts are not the directors’ debts, if the company continues incurring debts at a time when it cannot afford to pay its debts as and when they fall due,then the directors can be liable for these debts. This is known as insolvent trading, and if you (as a director) allow your company to trade while insolvent, you may be in breach of the Corporations Act 2001.

The liquidator can make a civil claim against directors for the loss caused to a company and its creditors from insolvent trading. The Australian Securities & Investments Commission (ASIC) may also prosecute directors under criminal proceedings potentially resulting in jail time.

When you do not perform your duties as director

As a director of a company, you have your own work to uphold – failing to do this can incur personal liability if a company enters liquidation. As the ASIC points out, this includes the following:

  • Disqualification from managing a company for five years,
  • Personal liability to compensate the company,
  • Five years imprisonment, or
  • A fine of up to $200,000.

Providing guarantees to your company’s financiers and suppliers

It is common practice for lenders, landlords and trade suppliers to request security in the form of a director guarantee when they extend credit to a company. As a director, you may be required to use your home as equity to secure your business’ financial future, which gives you a direct liability for company performance.

Your personal assets may become available to be applied to company debts.

Under processes like voluntary liquidation, your personal assets may become available to be applied to company debts.

When acting as corporate trustees

Businesses often trade in a family trust with a corporate trustee and self-managed super funds also operate under a corporate trustee. The trustee company is generally liable for the trust debts, however there may be an exception to this where the terms of the trust are breached. In these circumstances the director of the corporate trustee may be may be held personally liable.

Phoenix practices

Phoenix activity occurs when a company collapses into liquidation following the sale of some or all of its business to a related company beforehand. Phoenix activity is classified as ‘illegal’ if it occurs in a way that puts the company’s assets beyond the reach of its creditors. A common example is a company transferring its assets to a new company with the same director for less than market value. Often this occurs just prior to liquidation and the new company may pay nothing at all for the assets.

If illegal phoenix activity occurs, it can result in the liquidator of the old company pursuing claims against the new company for an undervalued transaction, and against the directors personally for breaches of their duties. Additionally, ASIC may pursue criminal proceedings against the directors.

Other circumstances can apply (such as under an Australian Taxation Office director penalty notice), but these are the primary instances in which you could be personally liable for your company’s debts. For more advice about the potential risks for you as director and information on corporate insolvency, contact the professionals at Pearce & Heers.[/vc_column_text][/vc_column][/vc_row]


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