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Legal Tip 14: Who should be a director of the Company?

Discussion in 'Legal Issues' started by Terry_w, 2nd Jul, 2015.

  1. Terry_w

    Terry_w Structuring Lawyer and Finance Broker - all states Business Member

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    Who should be a director of the Company?

    For a small trading company, a company acting as trustee, or a company owning property etc


    Companies are artificial legal persons used to limit liability. A company can enter contracts, sue and be sued. Generally the director of the company can hide behind the corporate veil of the company so that if the company is sued the director(s) are not liable.


    But there are exceptions. If the directors cause the company to breach laws the directors can be personally liable. One example is trading while insolvent, another is the payment of taxes.


    The other way a director can be personally liable is to give a personal guarantee for the company. Usually those contracting with companies will know that the company could be a worthless shell so they will often insist on obtaining a personal guarantee from all directors. This the case when companies borrow to buy property.


    Naturally the risks associated for a director being sued in relation to their role with the companies can be reduced for the people behind the company if the directors are limited to 1 person. This can also stretch borrowing power further.


    But there are other risks with not being a director as you will not control the actions of the company and the director could cause the company to enter contracts and take risks that you may not be comfortable with.



    Plan carefully.
     
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  2. Be Developer

    Be Developer Property Developer Business Member

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    @Terry_w

    Thanks for detailed info.

    Can you please explain more on?

    This can also stretch borrowing power further.
     
  3. Big Daddy

    Big Daddy Well-Known Member

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    Yes, can you please explain this further. I use 2 directors because i assumed the banks want to see my wifes name on loan in order to use her income in the serviceability calcs
     
  4. Terry_w

    Terry_w Structuring Lawyer and Finance Broker - all states Business Member

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    Say there is Mr Smith and Mrs Smith who are going to use a company to own property to invest. Both are directors = both give a personal guarantee. if Mrs Smith wants to buy a new property outside the company she will be assessed as owing the debt she guarantored for the company.

    Instead if Mrs Smith was left off then she would have a clean slate and the company debt would not be counted.

    Problem solved (until Mr Smith causes the company to enter a building contract with a mate builder as he has free reign - to an extent). Mrs Smith can't control Mr Smith and Mr Smith controls the company.
     
  5. Be Developer

    Be Developer Property Developer Business Member

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  6. kr11

    kr11 Well-Known Member

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    great write up terry
    If i setup a company as trustee, with myself and my wife as directors for a discretionary trust who has me and my wife as beneficiaries, and if a tenant tries to sue the landlord, so are they in effect suing the company and not me or my wife and if this company was trustee of only 1 property i.e. this discretionary trust, can that force the sale of the property to cover being sued

    many thanks
     
  7. Terry_w

    Terry_w Structuring Lawyer and Finance Broker - all states Business Member

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    Kr - if the tenants sue they will first sue the owner of the property which is the company. If the company received a court judgment against it all its personal assets would be at risk, up to the judgment debt, plus as it was acting as trustee all of the assets it owns as trustee will be at risk. Yes they can force the sale of the property of the trust - any property.

    And depending on what the tenants were suing for they may also be able to sue the directors and the personal assets of the directors could be at risk.
     
  8. kr11

    kr11 Well-Known Member

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    thanks
    i can see how one company per trust makes sense
    1.what situations could they sue the director(s) personally and if this was the case if i was the only director,could i sack myself straightly and put my wife in to replace me, to avoid being sued
    2.does having 2 directors as opposed to one, make any difference in banksserviceability calculations, if one was going to use 2 incomes anyway for the loan i.e. 2directors vs 1 director+1payg (wife) from the company

    thanks
     
  9. Terry_w

    Terry_w Structuring Lawyer and Finance Broker - all states Business Member

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    Directors could potentially be sued for something they cause - a negligent act such as knowing there is a broken step and not causing the company to fix it and the tenant breaking their back. Or doing electrical repairs themselves. etc There are heaps of laws which also make director's liable.

    Having 1 director will mean only 1 of you might go down with the ship rather than both. Better to lose half your main residence rather than all.

    Having 2 directors means both can be used for servicing. But having 1 director means 1 could be used or both used. both spouses would be beneficiaries of the trust so it would be easy to get the second spouse added to the loan without being a director. This would mean less risk of being sued but the benefits of servicing if and when you want to offer this extra guarantee. The choice is yours rather than the banks.
     
  10. kr11

    kr11 Well-Known Member

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    thanks terry
     
  11. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Member

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    One of the mistakes some small business people make is recycling a company. They seek to use the trading company as the SMSF Trustee and even trustee of a trust. Never a good idea. Can even be fatal to some transactions....I once found an accountant who had a client unit trust that owned property. Same company trustee was also trustee of a disc trust...That then owned 100% of the units in the trust. So a property owned by ABC Pty Ltd that was beneficially owned by a disc trust...Units owned by ABC Pty Ltd.

    One of the more serious issues with being a company Director is to ensure the entity does not trade while insolvent. This can lead to personal liability for the loss. Same as unpaid employee super and unpaid employee withholding taxes from their pay. The ATO can enforce the debt of each and all Directors personally without even going to court.

    I worked with a liquidator who was always amazed at how many Directors sign guarantees with suppliers, lenders etc who don't even keep a record of their amassed potential indebtedness.
     
  12. Terry_w

    Terry_w Structuring Lawyer and Finance Broker - all states Business Member

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    It is very easy to be insolvent as the Corporations Act states that if you have not kept proper records then the company is deemed insolvent. And that means director could be personally liable for debts.

    Many people have poor record keeping skills.
     
  13. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Member

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    I had a (former) client who appointed some kid who worked for him as the sole Director. So the employee was the employer ?? Bizarre. To answer the OP trick question - Best person may be someone else ??
     
  14. Terry_w

    Terry_w Structuring Lawyer and Finance Broker - all states Business Member

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    I knew a guy years ago who was director of a small company which operated a business. He did not own any shares and received an average salary - but he wasn't the 'boss' even though he was the sole director. Every now and then the boss would bring papers around for him to sign and it turned out he had provided personal guarantees for all owner's car leases through the company.

    Guess what happened - company failed. Last I head from him he was going bankrupt.

    Next time I will write about 'shadow directors'.
     
  15. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Member

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    That former client of mine got irate when I told him to leave the office and I spoke to the kid as he was the sole company director. I gave him the advice to resign immediately or I would.

    And also remember to include the wives who sign stuff (like guarantees and forms to become directors) and then argue they didn't know what they were signing.
     
  16. Peterk13

    Peterk13 Member

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    What about future changes to directors? What are the considerations?

    Say you have a trust that has borrowed a loan and the two directors of the company trustee provided guarantees at the time, is it possible for one of the directors to then resign later on? Would the personal guarantee remain in full force, in which case does the lending institution even need to be notified provided the loan continues to be serviced?
     
  17. Terry_w

    Terry_w Structuring Lawyer and Finance Broker - all states Business Member

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    Lots to consider.

    Could be a breach of the mortgage agreement for the company to change directors without the consent of the mortgagee.

    Any personal guarantees remain in place even though a person may resign as director
     
  18. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Member

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    Most state trustee acts (ie Trustee Act NSW etc) contain provisions which may or may not be repeated in the trust deed which allows a trustee to be indemnified for losses through the application of the trust assets. Suing the trustee exposes the trust assets...question is - Is it worth the cost and effort ? eg NSW s59(4), Vic s36(2) etc

    One of the simple steps a trustee can take is to ensure a property has insurance incl public liability cover. Also landlord insurance etc. So if a tenant has a claim they can deal with the insurers well paid lawyers.

    Some people fear asset protection like a tenant will sue if injured etc. Thats not really what asset protection is about BUT it is one element. But if its insured its like a Doctor having PI cover. When the claimant has to deal with a insurance giant and its well paid lawyers under retention its a low risk and at the insurers cost.

    Liability insurance

    A typical policy may have $20m of cover (some less) and the PDS / Policy should be read. eg NRMA Page 41-43 and apart from damages it can cover the claim itself.... eg

    When a claim is lodged with us, if you or your family are entitled to liability cover, we will: act for you or your family or arrange for a lawyer to represent you or your family attempt to resolve the claim if we consider that you or your family are liable for the incident defend the claim in a court or tribunal if we consider that you or your family are not liable for the incident. We can decide whether to defend or resolve a claim and how much to pay to resolve a claim

    Note that its important that the trustee is the insured party so that the cover is not declined. If a policy was in my name for example and not the trustee the cover may be declined as I am not the legal owner.

    The exclusions are important too. A insurer may decline cover if a boarding house / Airbnb was being operated rather than a residential lease.
     
  19. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Member

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    May even be a breach of the Corporations Act. Directors Duties ?
     
  20. Paul@PFI

    [email protected] Tax Accounting + SMSF Business Member

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    SA has one of the "best" trustee acts concerning asset protection. It only allows a trustee to access trust assets if the trustee was negligent, wrongful or ommission of an act reasonably expected and forseen. s35(1a) Trustee Act (SA)

    Legal advice on adopting SA law in a trust should always be obtained.