Safe harbour insolvency reforms to provide directors relief from insolvent trading provisions
Director’s duty to prevent insolvent trading
Section 588G of the Corporations Act 2001 creates onerous obligations for directors of a company to prevent the company trading whilst insolvent. Directors must ensure that the company is not insolvent when it incurs a debt, and that it does not become not insolvent as a result of incurring a debt. Failing to comply with s588G could result in directors being held personally liable for those debts if they cannot be repaid.
Until recently, the only option available to directors of a company in such a predicament was to appoint a voluntary administrator or a liquidator.
New ‘safe harbour’ protection for directors
In September 2017, amendments to the Corporations Act 2001 introduced a new section, s588GA to protect directors from personal liability for debts incurred by an insolvent company if they take a course of action that is reasonably likely to lead to a better outcome for the company and its creditors, compared to the appointment of an administrator or a liquidator.
Essentially, s588GA will allow directors to incur company debts during a ‘restructure/turnaround period’, without the risk of being held personally liable for those debts if they cannot be repaid.
The new ‘safe harbour’ legislation allows directors relief from this personal liability and the opportunity to continue to trade the company under distressed circumstances, provided they are taking a course of action reasonably likely to lead to a better outcome.
The ‘safe harbour’ only extends to debts incurred in connection with the course of action or its development. The protection ceases when the course of action stops being likely to lead to a better outcome.
What directors need to know to gain access to ‘safe harbour’
To rely on the ‘safe harbour’ provisions in s588GA, directors must:
- Continue to meet their employee entitlements (including superannuation) and tax reporting obligations
- Be able to provide assistance and/or documentation if requested by an external administrator, and
- Start developing one or more courses of action that are reasonably likely to lead to a better outcome for the company than the immediate appointment of an administrator or liquidator.
Factors that will be considered to determine if the course of action was reasonably likely to lead to a better outcome are:
- Obtaining appropriate advice
- Maintaining proper financial records
- Keeping themselves informed of the financial position of the company, and
- Taking steps to prevent misconduct by officers and employees of the company.
Things to remember
For the best chance of relying on ‘safe harbour’ while a turnaround strategy is implemented, directors should:
- Be proactive and seek advice early
- Engage qualified advisers who specialise in turnaround and restructure plans
- Ensure all reporting obligations and employee entitlements are up to date, and
- Document plans and decisions to provide evidence should safe harbour protection be challenged.
Timing is important
It is important to note that the course of action must be implemented within a reasonable period. This can vary depending on the size and complexity of the company.
Other changes impacting termination of contracts
Ipso facto clauses, a clause found in many commercial contracts, allows one party to a contract to terminate or amend the agreement upon the occurrence of an insolvency event.
A new provision set to come into effect in July 2018 will allow for a hold against the enforcement of these rights to terminate a contract.
The hold will apply to:
- Schemes for the purposes of avoiding being wound up in insolvency
- Managing controllers appointed to a company
- Voluntary administrations.
This is another positive change to allow companies to protect asset values and allow continuation of trade while a restructure of the business takes place.
For more information, contact:
- Andrew Sallway, Partner, Business Restructuring - Sydney +61 2 8264 6693
- Nicholas Martin, Partner, Business Restructuring - Melbourne +61 3 9603 1758
- Andrew Fielding, National Partner, Business Restructuring - Brisbane +61 7 3237 5886