In December 2015, the federal government announced that, as part of the National Innovation and Science Agenda, insolvency laws would be reformed to include a “safe harbour” for directors. The announcement came in response to the government recognising that insolvency laws put too much focus on penalising and stigmatising business failure. The proposed safe harbour would protect directors from personal liability for insolvent trading.
Fast forward to 28 March 2017 and the government has released draft legislation to address this key reform.
According to Kelly O’Dwyer, Minister for Revenue and Financial Services: “This will drive cultural change among company directors and encourage them to engage early with a plan for business rescue, to keep control of the company while the plan is executed, and to take reasonable risks to facilitate the company’s recovery, rather than placing the company prematurely into voluntary administration or liquidation.”
Proposed legislative changes
Whilst the bill remains in draft form, the four key considerations of the proposed legislation that will need to be understood by directors are as follows:
1. To rely on the safe harbour defence after becoming concerned about the company’s solvency, a director must take a course of action that is reasonably likely to lead to a better outcome for the company and the company’s creditors.
2. [endif]In determining whether a course of action is reasonable, the director will need to demonstrate that:
o Appropriate steps have been taken to prevent misconduct by officers and employees,
o The company maintains appropriate financial records,
o Advice has been obtained from an appropriately qualified entity,
o They have kept properly informed of the company’s financial position, and
o They have developed or implemented a plan to restructure the company to improve its financial position.
3. In addition, the company must continue to meet its employee entitlements (including superannuation) and taxation reporting obligations during the relevant period.
4. The safe harbour protection will apply from the time the director starts to take action when insolvency is suspected, until either (i) the action ceases, (ii) the course of action stops being reasonably likely to result in a better outcome for the company and its creditors, or (iii) the company enters external administration.
For many years, fear of liability under insolvent trading laws has often influenced company directors to appoint a voluntary administrator, in circumstances where the company may be viable in the long term. This typically erodes the value of the business and limits restructuring options.
The proposed changes to the legislation are a welcome relief to directors. However, the government has made it clear that the new legislation will not be a ‘free kick’ for company directors. They are to remain vigilant, act early on signs of financial distress and adhere to safe harbour rules if they are to rely on the defence.
Watch this space for more details to come as the legislation is fine tuned.