A number of recent discussions with directors of companies has again raised the issue of people agreeing to be appointed as directors of companies with no real idea of the responsibilities that go with accepting that position. These discussions highlighted the significant risks of becoming a director of a company when you have little or no control over the management or financial affairs of the company.
The most recent case was an individual (Mr A) who wished to make income producing investments. He was approached by a person with an opportunity to be involved in a property development. This person set up a company and Mr A became the director, and probably thought that he was in charge. The other person did not become a director, but held a majority shareholding.
The company borrowed funds from a bank to develop a property. Mr A, as director, guaranteed the loan from the bank. He also put in a significant amount of his own funds. The other person did not guarantee the bank loan or invest any funds in the company.
So far it sounds like a normal bad investment opportunity for Mr A. There is a prospect of losing money if the development does not work out, and not making much if there is a profit and it is distributed to shareholders, Mr A only being a minority shareholder. (At times these directors have no shareholding, and no share of any profits.)
But Mr A has no managerial or financial control over the development, the company or the funds. He is not even a signatory on the company bank account. The other person controlled all the funds and made all of the decisions.
There is a shortfall in the funds required to complete the development, possibly funds gone missing, and the company is failing. The director’s guarantee is being called in by the bank. He is also responsible for any insolvent trading claims that may be made and could be liable under a Director Penalty Notice from the ATO if an appointment is not made within the prescribed period.
Part 2D.1 of the Corporations Act “sets out some of the most significant duties of directors, secretaries, other officers and employees of corporations. Other duties are imposed by other provisions of this Act and other laws (including the general law).” (Section 179) This is only one part of the responsibilities of which directors should be aware.
Many directors of small or ‘family owned’ companies would have little idea of the extent of these responsibilities or the potential consequences. Some people (possibly many directors of smaller Pty Ltd companies) are either unaware of or unconcerned with fulfilling their obligations as a controller of a legal entity and, in many cases, the handler of other people’s money. They pass that problem to their accountants and other people.
They do not realize that they will be held accountable for the problems and losses of the company even though they were ‘not really in charge – it was the other bloke that caused the problems’.
There is always an argument that the other party behind the company is a de-facto director and could also be held liable for insolvent trading or other claims. But the appointed director is still the first in line under guarantees and for other claims, particularly from liquidators. It would be cold comfort to bankrupted directors who have lost everything that de facto directors are also held liable.