Understand Risks and Responsibilities of Small Business Owner Directors

The risks and responsibilities of a small business company director

The frustration for many small business owners is nobody tells you everything you need to know.

The education journey of a small business owner can be a steep one.

A key part of going into business seems to be an acceptance of ‘always needing to learn something more' and to remember you're usually both the technician and the director of the company - a juggling act that carries more responsibility than many people initially appreciated.

This is especially true about the responsibilities of a business owner and their need to both understand and manage, the natural risks of life and business.

Read in this article:

Ignorance of what your responsibilities are as a Director, is no defence

For example:

• Didn’t know you had to pay your Contractors Superannuation? Ignorance is no defence. (If you’d like to argue that point with the ATO, you can start that discussion here).
• Are your team members Employees or Independent Contractors? Ignorance is no defence.  You need to know the difference between them or the Tax Office will want to talk with you.
• Employing staff under the correct Employment Awards? Ignorance is no defence.  Get that wrong and the Dept. Fair Work Australia will want to speak with you.

Keep your head out of the sand

The metaphor of ‘putting one's head in the sand’ comes from the mistaken idea (now elevated to urban legend) that ostriches actually put their head in the sand to hide when they are frightened.

Not only will this suffocate the ostrich, but it won't hide a company director from their legal responsibilities either.

So why do so many company directors not know what their responsibilities really are?

The traditionally overly relaxed approach of many company directors actually begins with the environment when they first decide to go into business.

When does a new business actually begin?

Talking to new business owners about their new ideas can be an exciting conversation.

Speaking with a business lawyer about the need to anticipate risks and insure the business against them can sound less exciting - perhaps more like being scolded for what you haven't even had the time to think about yet.

Where does a business idea start?

Most good ideas for a new business often begin with an idea shared between close friends over dinner or discussing a repeated frustration experienced by family members.

In these situations there is usually a higher level of initial trust so we don't automatically jump to the risk management conversation - we just develop the idea some more and sometimes drift into starting a business around it.

This higher degree of trust is evident by the large number of family-run small businesses that still don't have a formal shareholder agreement in place and predominantly run on the natural expectations of trust and expertise of the business owner/director alone.

Mixing Family and Business

As a family-run business grows, family members naturally gravitate to areas where their own skills and interests lie. Doing the bookkeeping, getting business structures explained and sorted with an accountant and talking with a business financial adviser about the personal risks to be managed, often gets relegated to another time, another person or to something to do after you have been to the dentist.

But people who go into business with an arm's length third party, are often more clearer about their own obligations and naturally understand the appropriateness of having a formal partnership agreement in place.

All businesses great and small benefit from adopting this approach and establishing their own Partnership Agreement. Like brushing your teeth, it's a necessary habit rather than an ‘as needed’ choice when you have time.

Put it back in your focus

It's fair to say what’s not in our focus, rarely gets the attention it usually deserves - until the wheels fall off, a family member gets married, gets sick or the bank wants to ‘secure the business loans by using the family home’.

And of course, the timing is never right to have these important conversions - so let's have them now.

6 Key responsibilities small business owners and their directors need to understand

Understanding these issues more will help you have more useful conversations with your solicitor, and your business financial adviser and ultimately help you feel more confident about your ability to navigate the new world of business around you.

Pro Tip: Why do many small business owners trade as a Proprietary Limited company (Pty. Ltd.) rather than a sole trader?
A company is a separate legal entity, unlike a sole trader. The company's owners (shareholders) can limit their personal liability and are generally not liable for any company risks.

Obligations of a Small Business Company Owner Director

The obligations of company Directors are broadly the same regardless of whether you're running a pet washing business, a tradie employing staff, an ASX-listed company, or even a self-managed super fund (SMSF) preparing for retirement.

Personal liabilities of a small business Company Owner Director

Ignoring (or not knowing) the responsibilities can mean company Directors can be held personally (and criminally liable) liable for:

• company losses caused by a breach of directors' duties
• outstanding tax and superannuation liabilities
• debts incurred while trading insolvent

Common mistakes Small Business Company Directors should avoid

1. Unnecessarily exposing personal and family assets to company creditors

While business owners usually have a general understanding of limiting their personal liabilities by using a company structure (ie: Pty. Ltd.) they can undermine this protection by not understanding the effect of supplying a personal guarantee or directors guarantee.

Not understanding the effect of providing a Director's Guarantee is like having a strong lock on the front door and having no back door.

The trojan horse that stands dormant inside most small business companies

Keeping a record of when a director provides a personal guarantee is important. Some historical context might be helpful.

Back in the day when a company entered into a formal contract, a rubber stamp of the company seal was applied to the contract along with its directors signature to indicate the company’s acceptance of the terms. This stamping of the official company seal was akin to the company signature on a document.

As the official company seal was the key to the company, a Seal Register was common where ‘all documents that had the company seal affixed’ were recorded so they could be traced.

Today, while the official company seal has gone the way of electronic signatures, all Directors Guarantees’ should be treated the same way and their details recorded separately and tracked.

• On every contract where directors or shareholders have to sign and provide personal guarantees or directors guarantees to secure the obligations of their companies, the specific contract should be listed in a directors guarantee register, so you can track your liability. Your creditors do.

2. Continuing to trade while insolvent

Trading while insolvent can be a temporary situation, depending upon cash flow.

This can be the case when a company is owed invoice payments greater than the amounts they owe its creditors. Trading whilst insolvent is not necessarily an issue if the directors believe they will have the means to pay their creditors in a reasonable amount of time, but if directors are concerned the company cannot pay their debts as and when they fall due, they should seek advice from their accountant asap.

• Where directors continue to allow a company to trade whilst insolvent can see them personally liable for the debts of the company during that time. Bankruptcy Trustees have successfully clawed back money owed by a company from the director's personal assets when trading insolvent.

3. Not acting in the company's best interests

Directors of a company often forget although they are the directors (and possibly a shareholder too), the company is still a separate legal entity distinct from them. This is why a company can be sued, taxed, registered or deregistered or take another company to court.

• While the company director is the directing ‘brain of the company’, the company's money does not automatically belong to the director and they are legally required to ‘act in the best interests of the company when making decisions, rather than themselves.’

Not doing so, can lead you to a legal problem - especially with Taxation Office

4. Not being aware Directors can be held personally liable for their company actions

Directors can be held personally liable for breaches of duties as a director and under laws relating to workplace health and safety and environmental protection.

• The government regulator ASIC has a list of requirements about the duties of company directors and the government has an entire Act of Parliament called the Corporations Act 2001 for you to read too.

Ignorance of responsibility is no defence.

5. Not keeping public company records up-to-date

The law requires a minimum standard of record keeping and that all key changes to a company be reflected in the official government register.

Changes of Registered Address and Principal Place of Business, new directors appointed, former directors removed or changes to the shareholders - all changes must be shown in the government's public register.

Pro Tip: A business may choose not to deal with a company with certain directors or certain majority shareholders as shown in the public records.

6 Not managing conflicts of interest

In Australia, the Corporations Act Section 181(1) requires that directors act 'in good faith in the best interests of the corporation

This is particularly important when shareholders and directors are separate and one seeks to impose their personal influences on the other to the detriment of the company. Paying a shareholder a company dividend or keeping those funds in the company to meet future creditors, is often a cause for conflict - especially if a director has a material personal interest of some substance involved.

While outside the scope of this article, the best way to handle a conflict of interest is to establish an internal process to manage it ahead of time as part of good business practice.

Rember- ignorance is no defence

If you're a Director of a company let's be crystal clear: if you assume the role of company Director, you assume the responsibilities of Director.

• You need to be sure you’re personally across all issues of the company so you can meet your duties as a director.

This means you cannot later claim you were simply not aware of what was happening and therefore shouldn't be liable for breaching your duties as a director.

Now let's get back to business.

Future additional articles in this series Understanding more about will include;

• Joint and Several Liabilities
• Directors' Guarantees and ‘All monies’ clause of a loan contract
• Partnerships Liability
• Partnership Agreements
• Buy and Sell Agreements Contractors v Employees
• Gross Profit v Gross Margin
• The Statistical Risks of Being in business with another person.
• The Numbers of Life

Drew Browne is a specialty Financial Risk Advisor working with Small Business Owners & their Families, Dual Income Professional Couples, and diverse families. He's an award-winning writer, speaker, financial adviser and business strategy mentor. His business Sapience Financial Group is committed to using business solutions for good in the community. In 2015 he was certified as a B Corp., and in 2017 was recognised in the inaugural Australian National Businesses of Tomorrow Awards. Today he advises Small Business Owners and their families, on how to protect themselves, from their businesses.  He writes for successful Small Business Owners and Industry publications. You can read his Modern Small Business Leadership Blog here. You can connect with him on LinkedIn.  Any information provided is general advice only and we have not considered your personal circumstances. Before making any decision on the basis of this advice you should consider if the advice is appropriate for you based on your particular circumstance.