What is safe harbour?
A common fear for directors when a company is insolvent or nearing insolvency is their personal liability for debts incurred by the company, if the company continues to trade and then ultimately goes into liquidation. This can lead to the pre-emptive appointment of a voluntary administrator or liquidator; or alternatively directors taking the ostrich approach believing there is little they can do; neither of which may be in the best interest of the company’s stakeholders.
Effective from 19 September 2017 a new section 588GA (and consequential provisions) was inserted into the Corporations Act 2001; colloquially referred to as ‘safe harbour’. Safe harbour protects company directors from liability for insolvent trading in the event that the company goes into liquidation.
The purpose of safe harbour relates to, and the protection it affords depends on, directors taking prompt, concrete, reasonable steps to turnaround or restructure the company with the benefit of appropriate external advice.
Restricted entry to the harbour
> There are very strict rules governing when the safe harbour protection is available to directors.
> It is only available to directors who:
- developed or took a course of action that, at the time, was reasonably likely to lead to a better outcome for the company than immediate administration or liquidation (the course of action that was developed must have been implemented within a reasonable period);
- ensured that the company complied with its obligation to pay its employees (including superannuation) and met its tax reporting obligations; and
- if the plan failed and the company entered external administration, met their statutory obligations to assist administrators, liquidators or controllers.
> The safe harbour only extends to debts incurred directly or indirectly in connection with the course of action or its development.
> Safe harbour commences at a particular time; being the moment the director suspects insolvency and decides to do something about it. It should be documented
The “reasonably likely to lead to a better outcome” test
> Whether a course of action is reasonably likely to lead to a better outcome is assessed at the time the decision is made; not with the benefit of hindsight.
> The threshold of ‘reasonably likely to lead’ is not as high as the words may suggest. It is a possibility that is not ‘fanciful’ or ‘remote’; but ‘worth noting’.
> There are some indicative factors to determine whether a course of action was reasonably likely to lead to a better outcome; namely whether the director has:
- kept themselves informed about the company’s financial position;
- taken steps to prevent misconduct by officers and employees of the company that could adversely affect the company’s ability to pay all its debts;
- taken appropriate steps to ensure the company maintained appropriate financial records;
- obtained advice from an appropriately qualified adviser; and
- been taking appropriate steps to develop or implement a plan to restructure the company to improve its financial position.
> Directors seeking to claim the benefit of safe harbour bear the evidentiary burden of establishing:
- they developed a course of action that was reasonably likely to lead to a better outcome for the company; and
- the debt was incurred directly or in connection with the course of action.
> The onus then shifts to the liquidator to prove, on the balance of probabilities, the course of action taken was not, at the time, reasonably likely to lead to a better outcome.
Meeting ongoing director obligations
> Directors should continue to comply with all of their other legal obligations and duties – safe harbour protection only extends to civil liability under the insolvent trading provisions.
> Continuous disclosure requirements (if applicable) continue to apply.
> If the restructuring plan fails and the company enters liquidation, safe harbour only protects directors from a liquidator’s insolvent trading claim if the directors have also complied with certain formal obligations during the liquidation, such as providing books and records and completing a ‘report as to affairs’.
> With some exceptions, failing to provide an administrator or liquidator access to books and records will prevent a director from being able to rely on those materials as evidence of having complied with the safe harbour requirements.
What to do?
If you suspect your company is insolvent or nearing insolvency, immediately contact us for advice so we can assist in navigating you into the safe harbour.