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How to ease company directors' liability burden

By Simon Weil

Friday 31st March 2000

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Company directors are exposed to liabilities as never before. As well as the usual risks relating to performance, contractual obligations and even negligence, they are also exposed to statutory liabilities under legislation such as the Companies Act, the Resource Management Act and the Health and Safety in Employment Act, to name but a few.

And it is not only directors who are in the firing line. Given the broad definition of "director" under s126 of the Companies Act, company officers and managers can be deemed to be directors and therefore exposed to directors liabilities.

The obvious risks that threaten directors are those arising as a result of actions taken (or not taken) by the directors in the course of the company's activities. Directors can be held accountable not only for their own actions but also for liabilities arising through no fault of their own.

Insurance such as directors' liability cover (provided it is authorised by the company's constitution) and even key-man insurance can offer stop-gap solutions but it is not a failsafe answer. Actions that void the insurance or indeed lapsed insurance cover could leave a director exposed to the liability personally.

With a shift in social mores to hold corporate officers ultimately and personally responsible for losses, recourse against a director personally to satisfy any claims (for example, if there was insufficient or even no insurance cover) could have catastrophic results for the director who is targeted.

That can be a bitter pill to swallow when the liability arises as a result of a co-director's actions, particularly if those actions were fraudulent.

To avoid such risks, company directors and officers would be well advised to consider asset protection planning as a line of defence.

With careful planning, structures can be designed to isolate and therefore protect family assets (such as the family home) from business risks.

With the peace of mind that comes from having an asset protection plan, directors can then carry out their duties to the best of their abilities without fear reprisals could cause personal financial ruin.

In addition to the nature of the structure itself, timing will also play a significant part in the effectiveness of any plan.

It must be carried out when there are no known or expected creditors and in some circumstances, allowance will need to be made for the time it will take to shift the equity in assets to the relevant protective vehicle.

If, for example, a couple were to transfer their home to a family trust, it is common practice to leave the purchase price owing to the couple as a debt. That debt is then systematically reduced under a gifting programme whereby the couple make gifts to the trustees in forgiveness of debt at the rate of $27,000 each a year.

If the home had a market value of say $540,000, it would take 10 years to complete the gifting programme. Until that gifting programme is completed, the residual debt owed by the trustees would constitute an asset that could be available for satisfaction of creditors claims.

Clearly, the sooner a plan is implemented, the greater the level of protection. While asset planning can be effective in protecting family assets from business risks, attention should also be paid to succession and business planning issues concerning the company itself.

The risk of business failure as a result of internal issues should not be under-estimated. Where non-related people are in business together, consensus should be reached on how to deal with issues such as the death, incapacity or retirement of either party. Agreement on what happens if there is a breakdown in the working relationship is generally easier to achieve before it turns sour.

Similarly, a succession plan can be helpful for the continued success of the business while serving as a retirement plan for the owners.

Whether an asset protection plan covers all of these items or whether it needs to cover all of them will depend on the circumstances.

The important factor is to act on the issues, identifying the areas of exposure and planning for them, before it is too late.

Simon Weil is a solicitor practicing in the field of trusts and asset protection planning with the Auckland office of national law firm Morrison Kent. An earlier article on tax planning appeared last week.

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