Insolvent trading post COVID-19 pandemic relief: directors’ liability risks
Published 22 April 2021
While the Australian government’s temporary COVID pandemic exemption to insolvency laws during 2020 provided relief by suspending some business directors’ duty relating to insolvency risks, their obligations in 2021 have reverted to the standard insolvency liability regulations.
The 2020 insolvency relief was part of the Australian Coronavirus Economic Response Package Omnibus Bill, March 2020, which 'temporarily suspended a director's duty to prevent insolvent trading along with any associated personal liability for directors if the relevant debt was incurred in the ordinary course of business' (section 588GAAA). This was intended to 'allow directors to continue to run companies during the COVID crisis and provide them with protection from being personally liable for debts of the company', to allow directors to focus on making critical decisions for business continuation, according to legal firm Clyde & Co.
The government JobKeeper wage subsidy supporting businesses and employment during 2020 ceased more recently in March 2021, and with that more Australian companies can be expected to face financial challenges, with further company closures and insolvencies.
Businesses, directors, owners and senior executives should consider these drivers of potential insolvency liability and be aware of the increased risks of insolvency liability claims under the business’s directors and officers’ (D&O) liability insurance.
Business directors need to fulfil their duty to prevent insolvent trading
Insolvency is defined as a business’s inability to pay its debts. Owners and company directors bear a high level of responsibility for the consequences of a company trading while insolvent under their management.
If a director fails to prevent insolvent trading, they can be held personally liable for the business’s debts, putting their personal assets at risk.
Insolvency is a business risk stemming from debts or liabilities owed, and an inability to service them according to agreed terms.
Gallagher NSW Manager Financial Lines, Professional & Financial Risks, Robert McCabe
The Corporations Act requirement is that ‘if a company is in financial difficulty, it is important that directors do everything they can to protect themselves going forward and avail themselves of the statutory defences to insolvent trading provided by section 588H. Namely, that at the time the debt was incurred the director relevantly had reasonable grounds:
to expect, and did expect, the company to be solvent and would remain solvent or
to believe, and did believe, that the company was solvent (and would remain solvent) based on information provided by a competent and reasonable person who was responsible for providing such information.'
Review your business’s directors and officers’ insurance cover
Insolvency related claims and risks are of critical importance under directors and officers’ and/or management liability policies, and recent regulatory changes as well as insurers decisions about how to consider potential claims is complex.
Following COVID-impacts and government adjusted regulations, some insurers have sought to impose an insolvency exclusion in their D&O policy wordings.
An expert insurance broker with specialised D&O knowledge can consider and evaluate policy wordings and the relevance of specific clauses to your business’s situation and the exposures this brings.
Gallagher provides insurance, risk management and benefits consulting services for clients in response to both known and unknown risk exposures. When providing analysis and recommendations regarding potential insurance coverage, potential claims and/or operational strategy in response to national emergencies (including health crises), we do so from an insurance and/or risk management perspective, and offer broad information about risk mitigation, loss control strategy and potential claim exposures. We have prepared this commentary and other news alerts for general information purposes only and the material is not intended to be, nor should it be interpreted as, legal or client-specific risk management advice. General insurance descriptions contained herein do not include complete insurance policy definitions, terms and/or conditions, and should not be relied on for coverage interpretation. The information may not include current governmental or insurance developments, is provided without knowledge of the individual recipient’s industry or specific business or coverage circumstances, and in no way reflects or promises to provide insurance coverage outcomes that only insurance carriers’ control.
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