Insolvency
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Insolvency is the inability of a debtor to pay their debt.[1] Cash flow insolvency involves a lack of liquidity to pay debts as they fall due. Balance sheet insolvency involves having negative net assets—where liabilities exceed assets. Insolvency is not a synonym for bankruptcy, which is a determination of insolvency made by a court of law with resulting legal orders intended to resolve the insolvency.
A business may be cash-flow insolvent but balance-sheet solvent if it holds illiquid assets, particularly against short term debt that it cannot immediately realize if called upon to do so. Conversely, a business can have negative net assets showing on its balance sheet but still be cash-flow solvent if ongoing revenue is able to meet debt obligations, and thus avoid default: for instance, if it holds long term debt. Many large companies operate permanently in this state. However, Bankruptcy is when the individual is cash flow insolvent and at the same time balance sheet insolvent.
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General duties
General duties imposed by the Corporations Act on directors and officers of companies include:
• The duty to exercise your powers and duties with the care and diligence that a reasonable person would have, which includes taking steps to ensure you are properly informed about the financial position of the company and ensuring the company doesn’t trade if it is insolvent
• The duty to exercise your powers and duties in good faith in the best interests of the company and for a proper purpose
• The duty not to improperly use your position to gain an advantage for yourself or someone else, or to cause detriment to the company, and
• The duty not to improperly use information obtained through your position to gain an advantage for yourself or someone else, or to cause detriment to the company.
Duty to not trade while insolvent
As well as general directors’ duties, you also have a positive duty to prevent your company trading if it is insolvent. A company is
Insolvency is the inability of a debtor to pay their debt.[1] Cash flow insolvency involves a lack of liquidity to pay debts as they fall due. Balance sheet insolvency involves having negative net assets—where liabilities exceed assets. Insolvency is not a synonym for bankruptcy, which is a determination of insolvency made by a court of law with resulting legal orders intended to resolve the insolvency.
A business may be cash-flow insolvent but balance-sheet solvent if it holds illiquid assets, particularly against short term debt that it cannot immediately realize if called upon to do so. Conversely, a business can have negative net assets showing on its balance sheet but still be cash-flow solvent if ongoing revenue is able to meet debt obligations, and thus avoid default: for instance, if it holds long term debt. Many large companies operate permanently in this state. However, Bankruptcy is when the individual is cash flow insolvent and at the same time balance sheet insolvent.
2
General duties
General duties imposed by the Corporations Act on directors and officers of companies include:
• The duty to exercise your powers and duties with the care and diligence that a reasonable person would have, which includes taking steps to ensure you are properly informed about the financial position of the company and ensuring the company doesn’t trade if it is insolvent
• The duty to exercise your powers and duties in good faith in the best interests of the company and for a proper purpose
• The duty not to improperly use your position to gain an advantage for yourself or someone else, or to cause detriment to the company, and
• The duty not to improperly use information obtained through your position to gain an advantage for yourself or someone else, or to cause detriment to the company.
Duty to not trade while insolvent
As well as general directors’ duties, you also have a positive duty to prevent your company trading if it is insolvent. A company is