Director Liability & Corporate Insolvency

Fiduciary

Under federal and provincial laws directors owe a fiduciary duty of care to all parties.  This duty required directors to act honestly, in good faith, and to always act in the best interest of the corporation.  In small businesses, there is often blurring of the lines between what is good for a director and what is best for a company.

The directors must approach their duties as a director with a reasonable degree of care, diligence, and skill.  If the company is in an insolvency situation, the directors are required to balance the interests of all stakeholders including creditors, shareholders, employees, government, and even the environment.  This varied group of stakeholders often have divergent interests, making the directors duties and obligations somewhat tricky and at times, at cross purposes.

For instance, directors have an obligation to treat all creditors the same way.  They cannot “favour” one creditor over another.  If a director knows that the company may not be able to pay all creditors, the director may want to protect the interests of some creditors over others.  A more significant problem is that the creditor is related to the director.

A director who borrowed money from friends or family to start up a business, may want to be sure that they are paid in priority to other creditors.  They may be tempted to do this by granting these creditors a secured charge or lien on some or all of the company’s assets.  However, it would be inappropriate to give them special status for their loans.  In granting secured status to some creditors, it gives the related creditors a “leg up” over other unrelated creditors.  This is seen as being unfair treatment.

Various Company Debts Could Include…

Beyond the efforts of some creditors to pierce the corporate veil by getting directors to sign personal guarantees, various federal and provincial statutes prescribe statutory duties that impose specific personal liabilities on directors.  So, even without directors signing any agreements or guarantees, they can be automatically held personally responsible for various company debts including:

Statutory

Initially, the Trustee will meet with you to provide an assessment of your situation. This is a free consultation.We will inform you of your rights and responsibilities during bankruptcy and will also advise you on other options that may be available to you like filing a Consumer Proposal. If you decide that you need to file for bankruptcy, you will be required to provide information regarding your income and expenses, assets and liabilities.

Liabilities relating to employees of the company, for unpaid wages and vacation pay
(in British Columbia, Corporate directors and officers personally liable for up to 2 months’ wages per employee that were earned or should have been paid during their tenure. Limits: In BC Directors/officers) are Not personally liable for:

• (i) Individual or group termination notice or money payable if corporation is in receivership or subject to certain bankruptcy actions;
• (ii) Vacation pay that becomes payable after they leave office; or
• (iii) Money left in an employee’s time bank after they leave office
• (Employment Standards Act, Sec. 96)

Liabilities for improper corporate actions:

This could include preferential payments or transfer under value in insolvent or near insolvent situations. (like the situation when a director pays back family members before CRA, or sells assets to a friend for less than what they are worth.  We see this from time to time, when a business owner has sold all of the assets of the company to another party (including another company owned by the director) in an attempts avoid creditors – a scheme sometime suggested by those less informed of the consequences

Personal liability for the corporation’s failure to remit or make certain tax and other payments including:

• GST, Payroll Source deductions, and PST

Environmental Liability

In 1997 the British Columbia Government implemented the Waste Management Act.  This Act makes corporations liable for environmental breaches and clean-up costs. It is possible that a director or officer of a corporation will be considered to be in the class of “responsible persons” who are jointly and severally liable under the Waste Management Act.  This type of liability could potentially be quite large and possibly hard to quantify.

Contractual

Often, directors and officers of business are asked to sign personal guarantees for corporate debts.  Agreeing to pay back business debts personally, can expose owners to significant personal risk. These requests for personal guarantees are often required for business to secure financing or asset purchases. Banks and other lenders often require personal guarantees as additional security for lending to the business. This type of guarantee means that both the business and the director/office are on the hook to pay back the liability (joint and several liability).  As a director, you can ask to limit your personal exposure to a special dollar amount.

Personal guarantees may also arise under commercial leases to landlords and other creditors. This is particularly expensive when the lease lasts over many years as the guarantee may mean that a business owner must cover the rent until the lease is expired.

Insolvency Situations

In insolvency situations where a business has closed, owner-managers may also be personally insolvent.  Informal negotiations with creditors is the first place to start.  In these types of situations as many creditors can be very flexible and are willing to accepted a negotiated reduced payment plan.  This is often not true with CRA.  If an informal negotiation is not possible, business owners personally have the option to enter into a more formal debt arrangement plan.   i.e. such as a personal proposal or personal bankruptcy.   A consumer proposal allows the business owner  to pay less than the full amount of the debt owing.