On 22 March 2020, the Australian Government announced its second economic stimulus package, which included a number of initiatives intended to provide temporary relief for financially stressed businesses (Relief). Immediately following the announcement, we prepared an article summarising these elements of the package, although they were yet to come into legal effect.
As anticipated, the associated legislation (the Coronavirus Economic Response Package Omnibus Act 2020 (Cth) (the CV Act)) has been enacted expediently, with the relevant Relief schedule taking effect from 25 March 2020. In light of the legislation and further announcements made over the course of the past week, we now provide an update for directors on the impact of the Relief and recommendations from our Corporate Team.
The temporary changes to the debt enforcement regimes are as expected. In summary, creditors will not be able to issue a statutory demand or bankruptcy notice unless the debt owed is at least $20,000. Additionally, once a statutory demand or bankruptcy notice is issued, debtors will have 6 months from the date of the notice (as opposed to 21 days) to comply with the notice (i.e. pay the debt). The changes apply to notices and demands served on or after 25 March 2020.
Whilst this breathing space assists debtors, and should help facilitate them ‘riding out’ the COVID-19 crisis, it is important that creditors also factor the amendments into their cashflow and debt recovery plan. It is crucial that creditors assess the very real risk of not being paid in a timely manner, or at all. Clear and open communication with customers and clients alike will be essential to navigate this issue.
Insolvent Trading Relief
Section 588G of the Corporations Act 2001 (Cth) (the Act) imposes a duty on a director to prevent the company from incurring a debt where there are reasonable grounds for suspecting the company is, or would become, insolvent. A director can be personally liable for the insolvent trading of the company if they are found to have breached this duty.
Safe harbour provisions were introduced in 2017 and, in limited circumstances, protect a director from liability under section 588G (Existing Safe Harbour). We previously wrote an article outlining the Existing Safe Harbour, which can be read here.
The new legislation (the CV Act), by way of amendment to the Act, establishes a new “safe harbour” where directors may also avail themselves of protection from personal liability for insolvent trading (Temporary Safe Harbour). The Temporary Safe Harbour applies for a 6 month period commencing 25 March 2020 and ending on 25 September 2020, unless otherwise extended (6 Month Period). It is similar, but different to the Existing Safe Harbour and both will coexist in parallel.
The key differences between the Existing Safe Harbour and the Temporary Safe Harbour are:
- the circumstances in which the debt is incurred for protection to be afforded:
a) under the Existing Safe Harbour, the debt must be incurred directly or indirectly in connection with a course of action that is reasonably likely to lead to a better outcome for the company;
b) under the Temporary Safe Harbour, the debt must be incurred in the ordinary course of the company’s business (meaning it must be necessary to facilitate the continuation of the business during the Six Month Period); and
c) the regulations to the Act may exclude particular circumstances from the Temporary Safe Harbour (though at the time of writing no exclusions have been published);
- the protected period:
a) the Existing Safe Harbour only affords protection for debts incurred during a particular period, which starts once the director has begun developing a course of action and will end once a particular event occurs (i.e. the course of action is no longer likely to lead to a better outcome for the company);
b) the Temporary Safe Harbour only affords protection for debts incurred during the Six Month Period (unless this period is extended);
- there are exclusions from protection under the Existing Safe Harbour which do not apply to the Temporary Safe Harbour:
a) the Existing Safe Harbour will not apply if the company has not been paying its employee entitlements on time or has not been complying with tax obligations when the debt was incurred; and
b) the Existing Safe Harbour is taken to have never applied if the director fails to comply with obligations to help, provide information to, and report to an external administrator, liquidator or managing controller appointed to the company.
The key similarities between the Existing Safe Harbour and the Temporary Safe Harbour are:
- debts incurred after the appointment of an administrator or liquidator of the company will not be protected by safe harbour provisions;
- the evidentiary burden when relying on a safe harbour is borne by the director (i.e. it is shifted and the director will need to adduce evidence to prove they were able to rely on the safe harbour);
- if a director fails to comply with its obligations under the act to give information about the company to, or permit the inspection of, or deliver, any books of the company to, an external administrator, liquidator or managing controller, that information and those books will not be admissible in evidence to rely on the safe harbour provisions; and
- where the subsidiary of a holding company engages in insolvent trading, the holding company may have safe harbour from liability under section 588V of the Act, where it takes reasonable steps to ensure that either the Existing Safe Harbour or the Temporary Safe Harbour will apply to the debt and each of the directors of the subsidiary, and the safe harbour does in fact apply to the debt and each of the directors of the subsidiary.
The safe harbour provisions and law regarding insolvent trading are complicated. Given the risk of personal liability, directors need to seek advice from financial advisors and lawyers on these issues and the application of a safe harbour to their particular circumstances.
- Despite any temporary relief from insolvent trading, it is imperative that directors still have regard to their other duties as they lead their company through the current COVID-19 crisis. We recently wrote an article on the duty of care and diligence and made some observations regarding the importance of that duty in the current market, which we recommend that directors take the time to read.
- As always, we strongly recommend that directors prioritise good corporate governance, the importance of which has been exacerbated by the COVID-19 crisis. This includes maintaining detailed minutes, obtaining appropriate expert and independent advice and ensuring appropriate record keeping.
- Directors should seek advice now from accountants, financial advisors and lawyers regarding the financial position (and solvency) of the company.
- The Temporary Safe Harbour should be used to supplement the Existing Safe Harbour and directors should be aware that it does not replace it.
- The Temporary Safe Harbour will only provide a ‘berth’ for 6 months. Directors must think very carefully now and plan for the 7th month when it arrives. Reliance on the Temporary Safe Harbour will also allow directors time to develop a course of action, and seek to rely upon, the Existing Safe Harbour.
We understand of course that this is a challenging time for many directors and businesses alike. SWS are highly experienced in advising on corporate matters and we regularly assist directors in this area – with a particular focus on private company directors. As always, our specialist team are available to answer any questions which you may have. The best advice to take from this article is that directors must act now and seek advice.
This article is not legal advice. It is intended to provide commentary and general information only. Access to this article does not entitle you to rely on it as legal advice. You should obtain formal legal advice specific to your own situation. Please contact us if you require advice on matters covered by this article.