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Insolvent Trading Tempplate
Corporate law (LLH305)
Queensland University of Technology
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Insolvent Trading Step 1: The Preconditions Section 588 G Section 588G imposes a statutory duty on directors of a company to prevent insolvent trading. This is a statutory duty. It has no equivalent duty at general law. It is not a fiduciary obligation. 588 G Directors Duty to prevent insolvent trading by Company: only applies to directors and not other officers. (1) This section applies if:
- (a) a person is a director of a company at the time when the company incurs a debt; and
- (b) the company is insolvent at that time, or becomes insolvent by incurring that debt, or by incurring at that time debts including that debt; and
- (c) at that time, there are reasonable grounds for suspecting that the company is insolvent, or would so become insolvent, as the case may be; and
- (d) that time is at or after the commencement of this Act. (1A) For the purposes of this section, if a company takes action set out in column 2 of the following table, it incurs a debt at the time set out in column 3. Precondition 1: Section 588G(1) This section applies if: (a) a person is a director of a company at the time when the company incurs a debt; and APPLY: Georgia, Graham and Michael are all directors – they are on the Board of Directors. This fits within paragraph (a) of the definition of director in the dictionary in s9. Chelsea May is a director because she fits within paragraph (b) of that definition – she ‘acts in the position of a director’.
The debt is the bank loan from Big Bank. This is incurred at some time after it was approved on 14 August 2020. All 4 directors were directors at the time the company incurred the debt. At the time when the company incurs a debt: Section 588G(1) This section applies if: (a) a person is a director of a company at the time when the company incurs a debt; and (b) the company is insolvent at that time, or becomes insolvent by incurring that debt, or by incurring at that time debts including that debt; and (c) at that time, there are reasonable grounds for suspecting that the company is insolvent, or would so become insolvent, as the case may be; and (d) that time is at or after the commencement of this Act. Precondition 2: Section 588G (1) This section applies if: (a) a person is a director of a company at the time when the company incurs a debt; and (b) the company is insolvent at that time, or becomes insolvent by incurring that debt, or by incurring at that time debts including that debt; and (c) at that time, there are reasonable grounds for suspecting that the company is insolvent, or would so become insolvent, as the case may be; and (d) that time is at or after the commencement of this Act. Insolvency: STATUTORY DEFINITIONS: ss9 and 95A Determine insolvency by: APPPLYING THE TEST FOR INSOLVENCY: “Commercial test" of insolvency v. "balance sheet" insolvency. The appropriate calculation is made by weighing up the
§ Defined in the dictionary in s9 to have the meaning set out in s91. There are 15 different ways to calculate the relation back day and many variables. § Just be aware of this one: If the winding up is a compulsory winding up, the relation back day is the date the application to wind up the company was filed with the court: s91. Focus on paragraph b. have met requirements for A and B here, if can make both of tehse can assume company was insolvent through 20 march right through until 14 sep 2020. Debt or loan was incurred while company was insolvent, means second pre condition is met. Precondition 3: At the time the debt is incurred, there are reasonable grounds for suspecting that the company is insolvent, or would soon become insolvent. s 588G(1)(c). Reasonable grounds? The use of the word "reasonable" requires an objective standard to be applied when assessing the grounds upon which the suspicion is based. The objective approach to be taken in assessing the reasonableness of the grounds and the standard expected of a director is to be found in Carrier Air Conditioning Pty Ltd v Kurda (1993) 11 ACLC 773, 775; ASIC v Plymin (No 1) (2003) 46 ACSR 126, 223 (affirmed on appeal). Commonwealth Bank of Australia v Friedrich (1991) 9 ACLC 946; R v Young [2020] QCA 3. Suspect means that the person has a positive feeling of an actual apprehension or mistrust that a situation exists such as the fact that the company is insolvent. The positive feeling may amount to an opinion on the same issue but without sufficient evidence of the matter: Queensland Bacon Pty Ltd v Rees (1966) 115 CLR 266, 303.
Apply: Would a director of this company, exercising an appropriate standard of care, have suspected that this company was insolvent at the time the debt to Blue Bank was incurred?
- A director acting reasonably would have read the auditor’s report and the company accounts prior to them being tabled at the AGM. Michael didn’t read the report at all, and if they did would have seen inconsistencies.
- A director who had read the report would have been aware of the Graham’s belief cannot be reasonable since he has falsified the reports. Neither Georgia, Chelsea May nor Michael have read the Auditor’s report, so any belief that they have that the company is solvent is not reasonably held. Precondition 4: The debt in incurred at or after the commencement of the Act. Note Part 5 commenced on 23 June 1993. APPLY: Satisfied Step 2: Has the Civil Penalty provision in s588G(2) been contravened? The Civil Penalty Provision: Section 588 G(2) By failing to prevent the company from incurring the debt, the person contravenes this section if: director is aware they are insolvent, or reasonable person in a like position is aware. (a) the person is aware at the time that there are such grounds for so suspecting; or (b) a reasonable person in a like position in a company in the company’s circumstances would be so aware Note: This section is a civil penalty provision (see section 1317E) Element 1: Aware – Looking for subjective awareness they are aware (difficult to prove) This refers to whether the director was cognisant or informed of circumstances which would reasonably lead that director to suspect of feel apprehensive about the company's ability to pay all its debts as and when due. Provisions involving the state of knowledge or awareness of a person are often difficult to prove.
and was fully informed as to the company’s financial affairs) would have been alert to the grounds for suspecting the company was insolvent. This conclusion is largely based on an application of Commonwealth Bank v Freidrich (*see presenter’s notes). Note particularly page 184. Objectively a reasonable director would be aware of a company’s insolvency. Element 3: Director fails to prevent the company from incurring the debt On the balance of probabilities would these facts give a director of ordinary competence, seeking properly to perform the duties of that office, reasonable grounds to suspect that the company is not able to pay all its debts as and when they become due. APPLY: None of the directors have taken any steps to prevent the company from incurring the debt. This element is met. Asic v ADLER. All have contravened the civil penalty provision. Step 3: Has the Criminal Offence in s588G(3) been breached? The offence: 588G(3) A person commits an offence if: a) a company incurs a debt at a particular time; and aa) at that time, a person is a director of the company; and 2. b) the company is insolvent at that time, or becomes insolvent by incurring that debt, or by incurring at that time debts including that debt; and 3. c) the person suspected at the time when the company incurred the debt that the company was insolvent or would become insolvent as a result of incurring that debt or other debts (as in paragraph (1) (b)); and 4. d) the person's failure to prevent the company incurring the debt was dishonest. Element: Dishonesty: The new element here is s588G(3)(d) which provides that the person’s failure to prevent the company from incurring the debt is dishonest. See definition of dishonest in the dictionary in s9. This is obviously a question of fact that will turn on all the circumstances of the case. Step 4: Safe Harbours?
The 2 Safe Harbours § Section 588GA(1) § Section 588GAAA – the COVID-19 Safe Harbour Section 588GA(1): Safe Harbour Civil liability under s588G(2) is excluded by 588GA(1) if: “(a)after the director begins to suspect that the company may become or be insolvent, he or she starts developing a course of action (that is, a turnaround) that is reasonably likely to lead to a “better outcome for the company”; and (b)the company incurs a debt (which might otherwise lead to insolvent trading liability for the director) directly or indirectly in connection with the turnaround that the director is developing; (c)that debt is incurred within the period beginning when the director starts to develop the turnaround, and ending when the turnaround is discontinued, or not pursued within a reasonable time, or ceases to be likely to produce a better outcome for the company, or an external administrator is appointed.” FORD [20] Apply: Section 588GAAA Safe Harbour – Temporary relief in response to the coronavirus This provision was inserted into the Corporations Act as part of the economic and legal response to the COVID-19 crisis. While it is a safe harbour, it operates quite differently to that in s588GA. Section 588GAAA(1) provides that section 588G(2) does not apply in relation to a person and a debt incurred by a company if the debt is incurred: (a) in the ordinary course of the company’s business; and (b) during the period starting on [24 March 2020] and ending on [ December 2020 or longer as may be prescribed]; and This safe harbour does not apply because there are no facts at all that speak to the development of any course of action. (c) before the appointment during that period of an administrator or liquidator of the company. Apply:
Section 588H(5) Since no steps have been taken to prevent the company from incurring the debt, this is not relevant. Inactivity, need to be proactive. Step 6: Consequences of Contravening Civil Penalty provision As a civil penalty provision has been contravened, Part 9 sets out the civil consequences. ASIC can make application for § A declaration of contravention (ss 1317J(1), 1317E) § A pecuniary penalty (s1317G) § A compensation order. The company also has standing to seek this order. (ss1317J(1), (2), 1317H) § A relinquishment order. This order can also be made at the court’s own initiative. (s1317G) § A disqualification order under s206C. Step 7: Consequences of committing offence – s588G(3) Section 588G(3) is an offence provision. Schedule 3 of the Corporations Act stipulates the penalty. Recall that penalty units are defined under Section 4AA of the Crimes Act 1914 (Cth) and increase over time. Step 8: Compensation via recovery proceedings (EG 588m) Recovery from the director personally Sections 588G, 588J and 588K apply irrespective of whether or not the company is being wound up. If the company is being wound up then the liquidator may also seek a compensation order that the director is liable to compensate the company for contravention of the insolvent trading provisions under S588M. This provision allows the recovery of compensation from a director by the liquidator. Creditors can bring these compensation proceedings with the liquidator’s consent s588 R or in certain circumstances without the liquidator’s consent ss588S &T. In certain circumstances, the creditor is prevented from suing: s588U. Step 9: Relief from Liability Sections1317S and 1318. These provisions provide a mechanism for a director facing civil proceedings to seek discretionary relief from liability
Summary of advice All directors have contravened s588G(2), a civil penalty provision. They are unable to avail themselves of any defence or safe harbour. They are unlikely to succeed in a relief application. All are potentially exposed to the declaration of contravention, pecuniary penalty orders, compensation orders, disgorgement and are likely to be disqualified from the management of companies. Bizrisk (who we are advising) should note the liquidator’s standing to bring recovery proceedings under s588M to recover compensation payable to the company. This will be measured by the creditor’s loss. In addition, Graham is in breach of the offence s588G(3) and if found can be subjected to a penalty and/or imprisonment.
Insolvent Trading Tempplate
Course: Corporate law (LLH305)
University: Queensland University of Technology
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