Safe Harbour Reforms: Must the Captain Always Go Down With the Sinking Ship?

Insolvency Law Reform Act 2016 (ILRA) introduced a raft of new reforms in the Corporations Act and Bankruptcy Act to update and streamline Insolvency law in Australia. The reforms were introduced in two tranches, with the second tranche of reforms commencing just over two years ago on 1 September 2017 introducing new Safe Harbour provisions to the Corporations Act.

Under Section 588GA of the Act, these Safe Harbour reforms would preclude Directors from being personally liable for debts incurred after the date of insolvency by Insolvent Trading (Section 588G of the Corps Act) if it can be shown that the debt incurred was in connection (either directly or indirectly) with a course of action reasonably likely to lead to a better outcome for the Company and Creditors as a whole.

In this regard, several steps must be taken within a reasonable period of time to ensure the debt being incurred is in connection with a course of action that would likely lead to a better outcome. This is specified in the Act as follows:-

(2)  For the purposes of (but without limiting) subsection (1), in working out whether a course of action is reasonably likely to lead to a better outcome for the company, regard may be had to whether the person:

(a)  is properly informing himself or herself of the company’s financial position; or

(b)  is taking appropriate steps to prevent any misconduct by officers or employees of the company that could adversely affect the company’s ability to pay all its debts; or

(c)  is taking appropriate steps to ensure that the company is keeping appropriate financial records consistent with the size and nature of the company; or

 (d)  is obtaining advice from an appropriately qualified entity who was given sufficient information to give appropriate advice; or

 (e)  is developing or implementing a plan for restructuring the company to improve its financial position.

Additionally, a Director wishing to rely on the provision must be up to date on Tax Reporting and have fully paid employee entitlement obligations including all Superannuation liabilities.

With a review of the effectiveness of the new provisions likely to be undertaken in the near future, it is important to highlight some key issues with the new provisions.

Firstly, the lack of use of the Safe Harbour provisions has left many unsure of how the new laws would operate, given they are yet to be tested in the Courts. This problem is further amplified by terminology used in the legislation that provides little guidance. Examples such as ‘reasonably likely to lead to a better outcome’ and ‘appropriately qualified advisor’ are too vague and may still deter Directors from engaging in safe harbour.

Secondly, the Safe Harbour provisions are often unavailable to most Directors, especially in the SME space, given that all employee entitlements and tax reporting must be up to date and fully paid. It is often the case the Australian Taxation Office is a creditor in the majority of administrations and almost all small to medium businesses have a tax liability making them ineligible for 588GA protection from insolvent trading.

Finally, a lack of education and Director training in Australia means that many Directors are simply unaware the option is available to them. This prevents early intervention and assessment by an appropriately qualified advisor to formulate a rescue plan for the Company. Time is the enemy in situations such as these and unfortunately, by the time a Director seeks external advice, it is too little too late.

While the ILRA introduced reforms to streamline the insolvency industry in Australia and provide Directors with additional tools to navigate troublesome times for the Company, greater Director Education is needed on the importance of understanding the Company’s financial position, seeking appropriate advice early and knowledge of the potential options available to truly bring about reforms in Australia.