This post has been updated in Nov 2021 for comprehensiveness.
Have you just become a director of a company? Maybe you’re thinking about it or you’ve been a director for a while now.
Whether you’re a new director, or you’re a director with loads of experience, it’s good to brush up on what your director’s duties and liabilities are.
As a director, you would know that Australian directors are under extremely strict obligations when it comes to being proper, professional and legitimate.
After all, directors duties in Australia form the backbone of how companies run and the corporate world in general.
In this guide, we go through the 6 duties that all Australian directors must follow. So, grab a coffee and learn all about how you should be keeping legally compliant.
It just might save your business, and yourself from landing in hot water.
Read on here.
What is the role of a director?
Being a director of a company is a role that comes with a lot of responsibility. So, it’s not something to take lightly.
In fact, it’s a role of the highest standard. Directors are responsible for the overall success of a company’s business.
They are the main controllers when it comes to a company’s business and cover every aspect of the business, from company performance and staff to managing company finances.
All in all, company directors must ensure that a company is running smoothly and of course, legally.
The big question is: how can directors ensure they are acting legally and properly?
Luckily, there’s a simple answer. Know what your directors duties are and act accordingly.
Read on to find out what your legal duties and responsibilities are as an Australian company director.
But first, we’ll go through where directors duties in Australia come from.
Where do directors duties come from?
Of course, directors duties come from our Australian legal system. They truly form the backbone of how companies operate and how directors must act.
All directors are legally required to follow and abide by directors duties and obligations. This means that directors duties are, in fact, matters of law. All directors duties form part of the Corporations Act 2001 (Cth), a piece of legislation that governs companies and corporations in Australia.
Consequently, this means that failing to follow them, or blatantly breaking a duty, can have serious consequences. Directors can be fined in their personal capacity and even face gaol time.
As the consequences for breaching directors duties in Australia are serious, it’s best to know exactly what they are and ensure you’re abiding by them at all times.
In the paragraphs below, we tell you everything you need to know about directors duties.
What are directors duties in Australia?
Becoming a new director is extremely exciting. However, as mentioned above, directors have some major responsibilities when it comes to how a company acts and runs.
As there is such a large responsibility around being a director, there are a few strict rules you must follow known as directors duties.
Accordingly, there are 6 duties that directors owe.
The 6 duties all company directors must abide by are the duties to:
- Act in good faith and for a proper pupose,
- Act with reasonable care and diligence,
- Prevent insolvent trading,
- Prevent an improper use of position,
- Avoid all misuse of information,
- Prevent conflicts of interest.
Don’t worry, in the paragraphs below we’ll get you up to speed on what each of these duties means for you — a company director.
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The duty to act in good faith and for a proper purpose
This is the duty most directors know about. All directors have a duty to act in good faith and for a proper purpose.
It sounds simple on paper, but what does this really mean in practice?
Firstly, it requires a great deal of honesty — otherwise known as ‘good faith’ — to shine through regarding every decision or action a director makes. This means that directors must not be misleading and can’t hide the true purpose of any transaction or financial record.
Secondly, as directors must act for a ‘proper purpose’ they must only make decisions that are in the company’s best interest. This means that a director must put the company’s interests on top of their own personal interests. If they are doing this, then they are acting for a proper purpose.
In other words, directors should avoid jeopardising their companies interests for their own personal gain.
The duty to act with reasonable care and diligence
This is an extremely important duty that sets the cornerstone on how directors should manage their companies, act and make decisions.
When it comes to running and managing a company, conducting your due diligence and acting with care is the key.
Unsurprisingly, it’s also a legal requirement all directors must abide by.
How can directors act with care and diligence?
Put simply, the duty of care and diligence is all about being informed. For example, directors may breach their duty of care and diligence if they are unaware of their companies financial position and financial statements. Also, if directors allow their company to enter illegal transactions or break the law in general, they will be breaching their duty of care and diligence.
Also, any decision or action a director makes must be made after considering where the company stands as a whole. So, when directors make decisions or enter new transactions, this duty requires them to be properly informed about company activities, operations, board meetings, as well as the financial position and affairs of the company.
If a director makes well-informed decisions, for the benefit of the company, then it is likely they are acting in accordance with their duty of care and diligence.
All in all, directors can’t take a backseat in the management of their company. They must be informed, active, involved.
Do the standards of care and diligence differ depending on the type of director?
In short — YES.
In fact, this is exactly what section 180 of the Corporations Act states.
Looking to section 180 of the Corporations Act, directors are held to the same standards of care and diligence that any director in the same level of office would be required to hold.
This means that the ‘level of office’ you hold as a director is extremely important in determining how you — a director — should act with care and diligence.
For instance, the level of care and diligence of a non-executive director will differ from the level of an executive director.
In other words, as each type of director has different day-to-day responsibilities, the standards they must abide by will differ depending on their role title, involvement in the company, powers and so on.
As a rule of thumb, directors will be exercising reasonable care and diligence if they are fully informed and involved in all aspects of their company they are required to be informed about.
So, staying informed and involved is one of the keys that directors need to abide by to be legally compliant.
The duty to prevent insolvent trading
This is one of those duties that most people know about before even becoming a company director.
Directors in Australia are under a strict duty to prevent any sort of insolvent trading from happening.
The definition of insolvency is ‘a company that is unable to pay their debts when they are due and payable’. In other words, a company that continues with its business as usual even though it has debts that can’t be paid, are deemed to be trading insolvently.
This directors duty is provided for in the Corporations Act under section 588G.
Section 588G provides that directors may breach their solvency duties if:
- Their company is already insolvent at the time the new debt was undertaken or
- By incurring that debt, or a range of debts, the company becomes insolvent.
Section 588G tells us that there are, in fact, 2 ways a director may break or breach their duty to prevent insolvent trading.
Firstly, if they continue trading and entering transactions when they are already insolvent.
Secondly, when there are reasonable grounds to suspect that the company will become insolvent if it enters into some transaction.
What’s the easiest way to prevent breaching the duty of solvent trading?
Keep a close eye on your companies financies, both ingoing and outgoing, and make sure you’ve read and understood your company’s financial statements and reports. Of course, all directors are required to have knowledge of the financial circumstances of their company. Not only will this ensure you’re up to speed on your financial position, but it will prevent your company from, unintentionally, trading whilst insolvent.
The duty to not improperly use position
As its name suggests, this duty legally requires directors to refrain from misusing their highly authoritative position.
So, what must directors refrain from doing so they are not misusing their position? Section 182 of the Corporations Act provides us with the guidance we need.
Section 182 says that a director mustn’t improperly use their position to:
- Gain an advantage for themselves or someone else or,
- Cause detriment to the company.
In other words, directors can’t improperly use their position to gain some advantage for themselves or any other person that is not their company. They also mustn’t use their position to cause harm to their own company.
What are some ways a director may improperly use their position?
Of course, there is no setlist, but here are a few common examples. A director will breach this duty if they improperly misuse company funds, mix company funds with personal funds, enter into unlawful contracts, take bribes, secret commissions or other undisclosed benefits or take corporate opportunities for themselves that should have gone to their company where it was clear the company did not consent or have knowledge or the opportunity.
It’s quite a serious duty. However, this is because directors are in such high positions and must act for their company.
The duty to not misuse confidential information
As a director of a company, you’ll know that knowledge and confidential company information is an extremely valuable commodity.
Confidential information can either make or break your company, so directors are under strict duties not to misuse or inappropriately disclose it.
The duty to not misuse any confidential company information is provided for under section 183 of the Corporations Act.
According to this duty under section 183, directors mustn’t improperly use the information to:
- Take an advantage for themselves,
- Take an advantage for someone else or,
- Cause a detriment to the company.
Now, when we are talking about confidential information we’re referring to information that only you — as a director — know about. It could be your client databases, supplier databases, company finances, any trade secrets and so much more. Therefore, it’s information that is not accessible to the public, but accessible to you, through the privilege of being a company director.
In general, the duty to not misuse confidential information relates to 2 categories:
- Information about your company and,
- Information about other companies.
Regarding the 1st category, it’s quite unlikely any director would want to cause harm to their own company by spilling company secrets, client lists, company finances and so on. Unfortunately, it does happen. There are too many cases of directors spilling confidential secrets from their former companies, or secretly trading with competitors for bribes or secret commissions.
You must remember that this type of behaviour is, not only unethical but it’s illegal.
The 2nd category ‘Information about other companies’ is where directors tend to run into a bit of trouble. Directors mustn’t use information gained about other companies for any other purpose than for the benefit of the company. This ties into the duty to act for a proper purpose, as mentioned above.
The duty to avoid conflicts of interests
This is a pretty well-known duty. As your company is a separate legal entity, its affairs and interests are very separate from your own.
At its core, the duty to avoid conflicts of interests states that all Australian directors must avoid all potential and actual conflicts that arise between their personal interests and the interests of the company.
What may be a possible conflict of interest?
A conflict of interest, also known as a material personal interest, is any interest that has the ability to sway or influence a directors decisions and actions. For instance, if a director is sitting on the board of 2 companies and makes decisions for one company to benefit the other company, then a conflict may be present. In fact, the possibility for conflicts of interest is extremely wide and far-reaching.
However, unlike the directors duties mentioned above, this duty doesn’t require that company to suffer any harm or detriment for a breach to occur. So long as there is some conflict, a breach of the duty to avoid conflicts of interest will have occurred.
But, there is some good news. As long as you — the director — disclose any conflicts of interest, a breach will not be present. This rule to disclose any conflict or material personal interests is provided for in sections 191-194 of the Corporations Act.
The essence of each of these sections states that if a director discloses and gives notice of any potential conflicting interests, a breach won’t have occurred if the company acknowledges and accepts that potential conflict.
Do director duties only apply to directors?
It may sound like a simple question but an obvious answer but who owes these directors duties in Australia?
Of course, company directors will owe directors duties. But, are directors the only individuals that must abide by directors duties in Australia?
Surprisingly — NO.
Any individuals who are company officers will owe directors duties.
Who is an ‘officer’ of a company?
Thankfully, section 9 of the Corporations Act sheds light on who a company officer is.
Accordingly, an officer will include any person who is:
- A director or secretary of a corporation or,
- Any other person who makes, or participates in, making decisions for the whole or large part of the company or,
- Any other person who has a significant ability to affect the companies financial standing.
Based on the definition of who an officer can be, directors duties will apply to directors, company secretaries, company officers who hold a high level of responsibility and even some high-ranking employees.
Also, any individual who is acting in a high-level position, even though they do not permanently fill that role, will have to abide by the duties that apply to all officers in that position. For instance, alternative directors or acting directors will have to abide by the duties that apply equally to all directors in their exact same position.
Of course, the level at which directors duties apply to each different type of ‘company officer’ will differ. For example, directors duties will apply more strictly to executive directors as opposed to high-ranking employees or managers.
However, whether you’re a company director, secretary or an employee in a position of high responsibility and control, it’s more than likely you are legally required to abide by directors duties in Australia.
Who are these directors duties owed to?
Of course, we know that directors duties are in place to ensure directors are acting legally, professionally, ethically and effectively.
When directors act in accordance with their directors duties, companies tend to run like a well-oiled machine and it minimises the risk of mistakes that can potentially cost companies hundreds of thousands of dollars.
Other than the fact directors duties were created to set solid rules for how directors should act, they were created to protect the interests of the company and its shareholders.
So, directors duties are actually owed to your company shareholders as a collective group.
This is because your companies interests are actually your shareholder’s interests. They are both so closely interconnected that they are viewed as one collective interest.
Think about at — your shareholders own shares in your company. They’ve invested into the profitability they can see in your business. They don’t oversee the day-to-day tasks of your company. In actual fact, when you consider how much power directors have over the operation of a company, shareholders are vulnerable stakeholders. When directors do an injustice to their companies, they are in turn doing a large injustice to their shareholders.
So, our laws pertaining to company directors duties in Australia are there to protect the company in general, including the interests of company shareholders.
All Australian directors are legally required to abide by a set of duties, called directors duties. There are roughly 6 duty categories, including the duty of care and diligence, to act in good faith and with proper purpose, the duties to avoid conflicts and insolvent trading, as well as the duties to not misuse their position or confidential information.
Each duty outlines what directors can and can’t do by law. You see, as a director, you hold one of the highest positions of authority. You’ve properly heard the saying ‘with great power comes great responsibility.’ Turns out, that saying is extremely true when it comes to directors duties in Australia.
If you need more tailored information regarding what your directors duties in Australia are, our lawyers are always happy to help.
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