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.
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.
To rely on the ‘safe harbour’ provisions in s588GA, directors must:
Factors that will be considered to determine if the course of action was reasonably likely to lead to a better outcome are:
For the best chance of relying on ‘safe harbour’ while a turnaround strategy is implemented, directors should:
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.
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:
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: