A reasonably informed company director is likely to be aware of the provisions of the law that dictates the daily operation of the company and the rights and obligations of officeholders. They will also be aware that these provisions perpetuate a seemingly endless stream of paperwork and records, which in most companies is taken care of by accountants and administrative staff, occasionally reviewed by the director(s). Specifically, section 268 of the Corporations Act 2001 (Cth) requires that a company keep written financial records that:
a) correctly record and explain its transactions and financial position and performance; and
b) would enable true and fair financial statements to be prepared and audited.
Importantly, the records must be kept for 7 years after the transactions covered by the records are completed.
A well informed director is perhaps likely to know that the penalty for a breach of section 286 is a fine of up to $4,500 or 6 months imprisonment or both. An imprisonment sentence is hardly ever sought or imposed and so for many companies a fine is a mere slap on the wrist.
However, in our experience even the most well informed directors can be unaware of the additional consequences that can flow from a failure to comply with section 286 in the context of the involuntary winding up of a company. The lessor known but arguably more significant insolvency provisions of the Act can have serious consequences for directors. Section 588E raises a presumption of insolvency where a company has breached section 286.
A corporate entity is deemed insolvent when it is unable to pay its debts as and when they fall due. In the course of an involuntary winding up of a company the liquidator is obligated to show that the company is insolvent and then collect as many debts and assets of the company as possible to pay out creditors.
If a company is found to be trading while insolvent the directors of the company can be personally liable for the debts incurred during that period, and be subject to additional penalties. The danger of the presumption of insolvency is that the burden of proof shifts from the liquidator to the director(s) of the company to rebut the presumption. If the financial records of the company have not been properly kept and stored for 7 years, a director is unlikely to find relief in a defence. Certainly leaving the care and maintenance of the records to an accountant or administrative staff would not suffice to rebut a breach of section 286. All of a sudden, directors are not merely facing a $4,500 fine (and jail time), but the responsibility of the full value of debt incurred while the company was carrying out insolvent trading.
Kells recently ran a successful matter on behalf of a liquidator in making submissions that the defendant company was insolvent by virtue of the presumption contained in section 588E. The Court found that the directors of corporate entities have a positive obligation to have daily control and supervision of the financial records of the company and maintain knowledge of their whereabouts, accuracy and proper storage.
The Commercial and Civil Litigation team has an extensive insolvency practice and has represented liquidators, directors and creditors through the complex winding up process.
If Kells can assist you please call us on 4221 9311.