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A further element of the announcement made on 3 May 2021 by the Treasurer and Assistant Treasurer of Australia was in relation to the possible reform of the law relating to the “safe harbour” for Directors, protecting them from liability for insolvent trading. The announcement foreshadowed a “review whether the insolvent trading safe harbour provisions, which were introduced in 2017 and designed to promote a culture of entrepreneurship and innovation by providing breathing space for distressed businesses, remain fit for purpose.”

2017 safe harbour provisions

Section 588G(2) of the Corporations Act 2001 provides in summary that Directors will be personally liable for debts which are incurred when the company is insolvent or where the company becomes insolvent as a result of incurring the debt, and at the time there were reasonable grounds for suspecting that the company was insolvent or would become insolvent.

Notwithstanding that very few insolvent trading proceedings were brought, this was a major impediment to Directors continuing to trade a company even in circumstances where there was a reasonable prospect of restructuring, becoming solvent and resuming normal operations. As a result, in 2017 the law was amended to provide the so called “safe harbour” defence to Directors for insolvent trading.

Directors may invoke the safe harbour provisions by developing and implementing one or more courses of action as are reasonably likely to achieve a better outcome for the company. The company is required to fulfil certain obligations such as maintaining adequate books and records and paying its employees when due.

In addition, there are a number of non-prescriptive actions which would be expected of Directors in determining a better outcome for the company. These include obtaining advice from an “appropriately qualified entity”, keeping informed of the company’s financial position and developing and implementing a clear plan to restructure the company so as to improve its financial position.

2020 temporary safe harbour

In response to the pandemic, the Government introduced a temporary safe harbour regime on 25 March 2020 which expired at the end of 2020. This provided a much simpler regime. The requirements were that the debt incurred be “in the ordinary course of business” and during the period following the commencement of the section until its expiry. “Ordinary course of business” was given a special meaning in this context, which was that the relevant debt had to be incurred in circumstances where it was “necessary to facilitate the continuation of the business” during the relevant period. Anecdotally and based on the writers own experience, the temporary safe harbour was effective in allowing Boards of a significant number of companies to restructure in response to the outbreak of the pandemic without having to be concerned about incurring personal liability for debts that were incurred during the restructuring period.

need for reform?

The effectiveness of the temporary safe harbour arrangements brings the 2017 Safe Harbour Law into sharp focus. The complexity of the 2017 law is to be contrasted with the simplicity of the temporary Safe Harbour.

However, in considering any reform, it is necessary to balance the interests of creditors who may be severely disadvantaged in circumstances where a restructuring in safe harbour is unsuccessful. The non-prescriptive provision that the company obtain advice from an “appropriately qualified entity” is more likely to result in a restructuring that produces a “better outcome” than where Directors do not obtain appropriate external advice.

Nevertheless, obtaining advice from an appropriately qualified entity is expensive and may require the expenditure of funds which the company simply does not have available to it or for which there are competing priorities. This has led to Boards appointing persons who lack the necessary skills and experience as safe harbour advises. The Boards are thereby putting themselves as well as the advisors in jeopardy, potentially to the detriment of creditors.

A solution for smaller companies may be found in the simplified debt restructuring process for companies with liabilities not exceeding $1 million, which became effective on 1 January 2021. The concept of a Small Business Restructuring Practitioner, who would assist the Board in developing a Restructuring Plan and certify it, was introduced. To ensure the quality of the Restructuring Plan, such practitioners must be Registered Liquidators or qualified accountants who have demonstrated the capacity to perform the role and are included as such on the ASIC website. Such persons would be ideal safe harbour advisors and should be permitted to continue as the restructuring practitioner should the company move to this stage. This should produce efficient and cost-effective outcomes for small companies that qualify.

So far as large companies that do not qualify are concerned, taking into account the interests of creditors as well as of directors themselves, safe harbour advisors should be appropriately qualified persons, being registered liquidators, or other persons with appropriate qualifications (having regard to the more complex nature of safe harbour assignments for larger companies), included on the ASIC website as such.

The information contained in this article is general in nature and cannot be relied on as legal advice nor does it create an engagement. Please contact one of our lawyers listed above for advice about your specific situation.