Insolvent Trading Liability: Is your Company Insolvent?

If a company is experiencing serious financial difficulties, it is imperative that the directors consider whether the company is insolvent. There are serious consequences for insolvent trading, including civil penalties, compensation proceedings and criminal charges.

What is insolvent trading?

In general, a company will be insolvent if it is unable to pay all of its debts as and when they become due, and continues to incur further debt. However, ascertaining the company’s ability to pay its debts will depend on the specific circumstances of the company. A range of complicated legal and accounting issues need to be assessed to determine whether a company is insolvent.

Can directors be personally liable for insolvent trading?

Directors have a positive duty to ensure that the company is solvent before incurring further debts. Under section 588G of the Corporations Act, directors can be personally liable if they do not prevent the company from incurring a debt if:

• the company is insolvent when the debt is incurred; or
• by incurring that debt (or multiple debts including that debt), the company becomes insolvent, and
• at the time the debt was incurred, there were reasonable grounds for suspecting the company is already insolvent, or would become insolvent by incurring the debt.

It is most important that directors actively monitor the solvency of the company and immediately identify any issues with the company’s financial affairs. If a director does not keep themselves informed about the finances of the company, it is more difficult for them to take appropriate action in a timely manner. As soon as a director suspects the company is experiencing financial difficulties, they must carefully investigate the company’s solvency before incurring further debt.

If a director believes that the company is insolvent, they must consider all relevant information regarding the company’s financial position. If they have reasonable grounds to believe the company is in financial difficulty, they should obtain professional advice as soon as possible. If you believe your company could be insolvent, call us on call us on (02) 4929 7002 or email us at enquiries@butlers.net.au.

What are the signs of insolvency?

Determining whether a company is insolvent depends on the specific circumstances of the company. Directors should watch out the for the following signs identified by the Australian Securities and Investments Commission:

• ongoing losses
• poor cash flow
• absence of a business plan
• incomplete financial records or disorganised internal accounting procedures
• lack of cash-flow forecasts and other budgets
• increasing debt (liabilities greater than assets)
• problems selling stock or collecting debts
• unrecoverable loans to associated parties
• creditors unpaid outside usual terms
• solicitors’ letters, demands, summonses, judgements or warrants issued against your company
• suppliers placing your company on cash-on-delivery (COD) terms
• issuing post-dated cheques or dishonouring cheques
• special arrangements with selected creditors
• payments to creditors of rounded sums that are not reconcilable to specific invoices
• overdraft limit reached or defaults on loan or interest payments
• problems obtaining finance
• change of bank, lender or increased monitoring/involvement by financier
• inability to raise funds from shareholders
• overdue taxes and superannuation liabilities
• board disputes and director resignations, or loss of management personnel
• increased level of complaints or queries raised with suppliers
• an expectation that the ‘next’ big job/sale/contract will save the company

If your company is displaying warning signs of insolvency, call us on (02) 4929 7002 or email us at enquiries@butlers.net.au. it’s important that you seek financial advice as soon as possible so you can take appropriate action and avoid liability for insolvent trading.

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