How Directors can mitigate against personal liability

Long gone are the days when accepting a directorship meant occasionally turning up to a company’s annual general meeting, accepting a director’s fee and turning a blind eye to how a company was actually being run.

In recent years, with increasing regularity and at times severity, Australian Courts have made it clear that directors have significant personal responsibilities and duties and may be held to be personally accountable and liable for breaches of those duties.

Steps you can a take to mitigate against personal liability

From the outset it is essential that a director fully understands and complies with the scope of any duties that come with the directorship in order to be able to take appropriate steps and to act in such a way that personal liability is limited.

It is also important that if you are a director you take steps to maximise the protection the company of which you are a director is able to provide to you.

Finally it is also recommended that a director understands any cover provided under a directors’ and officers’ insurance policy especially any exclusions or limitations that may be in place.

Other steps you can take to protect yourself

In the case of directors’ duties ignorance definitely is not bliss especially when it comes to understanding and complying with your duties under the Corporations Act 2001 (Cth) (the Act).

The Act sets out a broad range of essential directors’ duties and it is crucial that as a director you not only understand what those duties entail but also take proactive steps to meet your obligations under the Act as a preliminary step towards mitigating potential personal liability.

Key points to note include that:

  • A director must always exercise and discharge their power and office with a degree of due care and diligence that it would be expected that a reasonable person acting in the director’s position, and taking into account the particular circumstances of a matter, would exercise;
  • A director must never leverage his or her position to gain a personal advantage or cause damage to the company;
  • A director must always act honestly and in good faith and must exercise his or her powers and carry out duties in good faith, for a proper purpose and in the best interests of the company;
  • If a director has any material personal interests these must be proactively disclosed to the company;
  • A director must never misuse any information that comes to the director’s attention through their role as a director particularly if to do so would either personally advantage the director or disadvantage the company;
  • A director is responsible for keeping properly maintained financial records that adequately document transactions and a company’s financial affairs. Even if staff are employed to assist with accounting a director still retains ultimate responsibility for the accuracy of those records; and
  • A director must never allow a company to incur a debt if the company is insolvent or if it would be reasonable for the director to suspect that the company may be insolvent. Additional duties also apply to directors who are involved with a company that trades while insolvent.

What is the business judgment rule?

When considering whether a director has breached their duties a Court will take into account what is colloquially referred to as the “business judgment rule”.

This means that the Court will consider whether a director has made a decision in good faith and for a proper purpose, whether the director had a material personal interest in the particular matter and whether the director took steps to adequately inform themself about the matter on which they were exercising judgment to a reasonably appropriate standard.

A Court will also take into account whether a director objectively and rationally believed that the manner in which they were acting and the decision being made would benefit the company.

Other potential liabilities to be aware of

In addition to the obligations under the Act discussed above directors may also incur personal liability for breaches committed by a company under the Competition and Consumer Act 2010 (Cth), various occupational health and safety laws, environmental protection laws and a plethora of tax and superannuation laws.

A  number of regulators including the Australian Securities and Investment Commission (ASIC) and the Australian Prudential Regulatory Authority (APRA) have the power to bring proceedings against directors personally.

How can I maximise any protection for breaches?

While a company may take out a policy of directors’ and officers’ insurance there are limitations on what any insurance policy can cover.

For example, the Act prohibits companies from providing its directors with indemnity for liabilities that are owed to the company itself or a related entity. Companies are also prohibited by the Act from indemnifying directors from any monetary (pecuniary) penalty payable as a result of a compensation order and in respect of a liability that arises to a third party as a result of the director acting in a way that was not in good faith.

In addition companies are prohibited from protecting and indemnifying directors for legal costs that may be incurred in defending proceedings in certain circumstances where a director’s liability or guilt is established.

Directors’ duties and obligations can be a minefield of potential pitfalls. Proactive rather than reactive action is the key to ensuring that your dream directorship does not quickly become a living nightmare. Our experienced lawyers have the expertise needed to advise you in respect of all relevant regulatory obligations and are here to assist you in taking the necessary and appropriate steps to mitigate against personal liability.

If you or someone you know wants more information or needs help or advice, please contact us on 08 9422 8111 or email buslaw@taitlegal.com.au.