Introduction
Business ownership inherently involves an assumption of risk, even though corporate bodies are a separate legal entity, with their own assets and liabilities.
As an alternative to not taking any risks, it might be suggested that the best asset protection strategy is simply not to have any assets. Unfortunately, that is entirely impractical in the real world.
We highlight some areas of risk, and some tools to consider, when implementing, or updating an asset protection strategy.
Company operations causing personal liability
An area which often causes concerns for business owners (and other parties) are statutory provisions which, if breached, can result in individuals within corporations (in addition to, and sometimes even instead of, the corporation itself) facing potential personal liabilities and/or prosecution. This is an extensive area, with too many legislative enactments to list in an exhaustive way. However, some notable examples include:
- Competition and Consumer Act 2010: For example, s18 refers to misleading and deceptive conduct by a ‘person’ and not just a corporation. As a consequence personal liability may be imposed on individuals as officers or agents of a corporation. Further, the ACCC bring proceedings seeking penalties for breaches of the Act against individuals just as readily as corporations;
- Work Health Safety Act 2011: This legislation is directed at a ‘person’ conducting a business, with person being defined to include corporations and virtually any variation you can think of in relation structures for carrying on business;
- Contaminated Land Management Act 1997: The EPA may, for example, issue a management order with respect to significantly contaminated land to the person responsible for the contamination, the owner of the land or the notional owner of the land. Further, the Act empowers the Court to order a director or manager of a corporation to comply with a management order at his or her own expense where land has been disposed of and a management order has not been complied with; and
- Privacy Act 1988, Spam Act 2003 and Do Not Call Register Act 2006: Officers of a company can be personally liable for their participation in breaches by a company of the provisions of these Acts, for example sending unsolicited commercial electronic messages.
Accordingly, it is vitally important that business owners (and often senior employees) ensure that they seek professional advice regarding any potential personal liability that they may incur in a business venture before they commence the venture or, at the very least, once they have commenced the business venture so as to enable them to identify and, where possible, seek to manage or reduce any potential personal liability and risk.
Clawing back assets without an insolvency appointment – s.37A Conveyancing Act
It is well known that both the Corporations Act and Bankruptcy Act give Liquidators and Trustees in Bankruptcy significant powers to ‘claw back’ assets which have been transferred with an intention to defeat creditors.
However, s37A of the Conveyancing Act (NSW) (and the similar provisions in other states’ legislation) gives rise to another avenue of recovery, which is available to any person, not just Liquidators and Trustees in Bankruptcy. Pursuant to s37A, every transfer of property made with the intent to defraud creditors is voidable upon the application of any person prejudiced as a consequence of the transaction. The exception to this arises in circumstances where the recipient of the property is a purchaser in good faith, who does not have any notice (at the time of the transfer) of the intent to defraud creditors.
The Court has determined that ‘intent to defraud’ has a wide meaning – it is enough that the effect of the transaction is to hinder or delay creditors in exercising their legal remedies. There is no requirement to show that there was a predominant or sole intention to defraud.
This is potentially a very powerful tool which may be available to creditors seeking to recover outstanding debts, and can be used without needing a prior bankruptcy or liquidation event.
Further, as a purchaser, specialist advice should be sought in the event that you are on (constructive or actual) notice that the vendor is entering into the transaction which could have the effect of hindering or delaying creditors of the vendor.
Importance of properly drafted Binding Financial Agreements
A binding financial agreement is an agreement that can be entered into by married or de-facto couples either before, after or during their marriage or relationship. Generally the agreement states how the parties’ assets, financial resources and liabilities will be divided should the relationship break down.
Because a binding financial agreement effectively recalibrates the rights of individuals to the relationship and can, in whole or part, oust the jurisdiction of the Family Court, there are strict statutory criteria that must be complied with for an agreement to constitute a binding financial agreement in accordance with the Family Law Act.
Even assuming that the agreement passes the threshold criterion, it can still be set aside in a subsequent insolvency as being a voidable transfer of assets. While binding financial agreements can have utility in the context of asset protection, unless done properly and in consultation with family law experts. Bankruptcy Trustees are likely to closely examine such arrangements and consider overturning them when occurring in reasonable proximity to an insolvency event.
The doctrine of exoneration
The doctrine can apply to any parties that jointly own property. A particularly common example is where funds are borrowed for the benefit of a company of which a husband is the sole director, but such borrowing is secured against the marital home, and there is a subsequent insolvency event for the company and/ or the director.
This doctrine requires:
- borrowed funds to be secured against jointly owned property; and
- those funds to have been used for the sole purpose and benefit of only some of the owners of the secured property.
The doctrine operates (as between the borrowers) such that any loan will be repaid firstly from the share of the property owned by the party who receives the benefit of the borrowing. The share of any party who did not receive a benefit should only be used in circumstances where there is a shortfall. For example, a $1 million property with a $500,000 loan leaves $500,000 in equity between the two owners, i.e. $250,000 each. However, with exoneration, the whole loan is paid from the beneficiary’s share, while the other owner is entitled to the whole of the equity.
A party seeking to claim the benefit of the doctrine must not have received a benefit from the loan. Broadly, the relevant benefit must arise directly from the loan - benefits received indirectly as a consequence of the loan have been found to be too remote to exclude operation of the doctrine. A very common example of a direct benefit is where the borrowers receive a salary from the business venture which received the borrowed funds.
Care should be had in circumstances where parties are granting security over a jointly owned property. It may be that a (potentially valuable) right to the benefit of the doctrine of exoneration could be available, or squandered, without even realising it.
Legal privilege protection
It is common knowledge that communications passing between a lawyer and their client (or the agent of the lawyer or the client) generally attract client legal privilege protection. However, it is increasingly common for there to be communications involving a third party (e.g. another advisor) and the lawyer, which may be assumed to automatically attract the same protection.
The Court has determined that communications passing between a client and other advisers (such as accountants and other financial advisors), or the other adviser and the client’s lawyers, can also attract the legal privilege protection under s118 of the Evidence Act, albeit in limited circumstances.
In order to attract the protection, however, such communication must still be for the dominant purpose of the client obtaining legal advice.
Accordingly, communications flowing freely between a lawyer, client, accountant, financial planner or other advisor will not automatically be entitled to a right of client legal privilege and, given the complexity of this issue, professional advice should be sought should this issue arise and care used in the content of such communications.
