A presumption of insolvency.
A recent case that we prosecuted in the Federal Court is a lesson to all directors and their advisors that if directors do not intend to maintain and retain proper Books and Records, they may find themselves at the mercy of the Court when a claim is made by a Liquidator for insolvent trading.
The trouble started when a company failed to pay a statutory demand in early 2016, leading to a major creditor making an application to the court to wind up the company. I and fellow Worrells Partner Chris Darin were appointed Joint Liquidators by the Court.
During the initial conduct of the matter the director failed to comply with our demands to provide a Report as to Affairs (“RATA”) and Books and Records as required by the Corporations Act.
As the director did not respond to our demands, we reported the director’s conduct to ASIC who commenced legal action against the director which resulted in him being convicted of offences under sections 475 and 530A of the Act and a penalty being issued in the amount $11,000.
After conducting our initial investigations and creditors lodging proof of debts it was determined that substantial creditors existed in the matter. Accordingly, we issued a demand to the director of the company for an Insolvent Trading Claim totalling $432,136.07 based on a presumption of Insolvency available under section s588E of the Corporations Act.
Section 588E of the Corporations Act provides that, at subsection (3):
(a) the company is being wound up; and
(b) it is proved, or because of subsection (4) or (8) it must be presumed, that the company was insolvent at a particular time during the 12 months ending on the relation-back day;
it must be presumed that the company was insolvent throughout the period beginning at that time and ending on that day.
And further under sub-section (4):
(4) Subject to subsections (5) to (7), if it is proved that the company:
(a) has failed to keep financial records in relation to a period as required by subsection 286(1); or (b) has failed to retain financial records in relation to a period for the 7 years required by subsection 286(2);
the company is to be presumed to have been insolvent throughout the period.”
When our demands were not met, we then initiated proceedings against the director in the Federal Court of Australia seeking Orders regarding the Insolvent Trading Claim.
This prompted communication from the director suggesting that books and records along with company assets comprising equipment, tools and office furniture were held in a storage facility and that he was willing to provide access to the Liquidator. Further action in relation to our demands were delayed in order to provide the director time to comply but despite this and our best efforts, no further communication was ever received from the director. More importantly, the company’s Books and Records were never received.
On this basis we approached the Court for orders that a search warrant be issued to access a storage facility.
We proceeded to execute the warrant and found the documents contained in the storage facility to be stuffed into boxes, jumbled, incomplete and of minimal assistance for investigating the affairs of the company. We formed the view that the records failed to comply with s286 of the Corporations Act.
The matter proceeded to be heard by the Court and on 2 April 2019, the Court declared that the director had contravened s588G of the Corporations Act and made Orders that the Company was entitled to summary judgement pursuant to s31A of the Federal Court of Australia Act 1976. Further the Court made Orders that the director pay $349,081.34 in respect of our claim for Insolvent Trading and a further $34,822.06 in respect of interest and our legal costs.
What’s the lesson that can be learnt from this case? Failing to maintain books and records and to provide those records to a liquidator can ultimately expose a director to a claim. In fact, in this matter, the Court took the director’s conduct in failing to provide the Liquidators with a completed RATA, failing to respond to the Liquidators’ questions and failing to provide access to the books and records of the Company as support for the presumption of insolvency.
Directors should take steps to ensure that the company properly maintains and retains books and records.
For more information on director duties and other insolvency matters, visit our website www.worrells.net.au or call your local Worrells partner for an obligation free chat.