How Financially Liable Are You As The Director Of A Small Business?

2016-10-27   minute read

John Haralovich

Alternatives to Bankruptcy

Companies devote resources to protect their business but often overlook the details necessary to also protect key stakeholders and directors. It’s important for directors to ask questions of the finance team in order to ensure they are adequately protected as well.

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The cycle for small business typically includes periods of low cash flow where decisions must be made about what should be paid versus what can be paid. Debts that have director liability implications are often overlooked or postponed in hopes that business will improve or further capital can be contributed.

As a best practice, it’s a good idea for directors to keep their eye on the following:

  • Employee source deductions. This debt has a priority over the assets of the company and ranks ahead of all creditor claims, including those of secured creditors. Should there not be sufficient assets in a corporation, this government claim extends beyond the corporation to all directors. It’s important to note that the Canada Revenue Agency (CRA) does not prorate the amount due by a director.
  • Employee wages and vacation pay. It does on occasion happen that when cash flow is soft, employees work in the hope that they will get paid their outstanding wages at a later date. If employees are not paid, they can make claims against the directors of the company.
  • Goods and services taxes. When companies start to sell products or provide services they will be required to charge and collect commodity taxes. Companies could find themselves in a situation where cash flow is soft and elect to not remit this payment. Again, directors are fully liable for these claims on the same basis as employee source deductions.
  • Guarantees provided for secured creditors. When companies arrange financing, their goal is to get the cash. In the heat of arranging the financing, guarantors may forget they have personally guaranteed the debts of the business. If there is a situation where the company can’t continue as a going concern, the claims for employee source deductions and HST rank in priority to these secured claims. This then leads the lender to call on the guarantee, which adds to further claims against shareholders and directors.
  • Landlords. Landlords know that, historically, small business companies are risky tenants. They try to protect their interests by having directors, shareholders or other stakeholders provide guarantees in support of the lease agreement. In the event the company can’t make its lease payments, the guarantors are called upon to satisfy the remaining term of the lease.

In summary, key stakeholders and directors must pay attention to the details to ensure they are not called upon to satisfy claims not paid by the company in the event cash flow isn’t sufficient to sustain operations.

All directors are jointly and severally liable — one single director could potentially pay any or all of the amounts mentioned above. Don’t let it be you in the circumstance where individuals are called upon to satisfy the claims listed above there could be significant effects to both their personal lives and financial security. If small business owners cannot keep the above listed expenses paid as they come due, should the business fail, the claims above would become a personal unsecured creditor.

In terms of financial responsibility, this debt would simply be grouped in along with your credit card debt and any other personal loans.

If you find your business having all or any of the above listed debts, it’s probably a good time to reach out to a License Insolvency Trustee who can help guide you through managing of these claims and how they will affect you personally.

If your small business filed for bankruptcy, the above listed debts would not go away, they would simply transfer to a claim against the director of the company. You can file a Consumer Proposal or file for personal bankruptcy for any of the above claims in the event your small business failed.

Our final point, be sure you want to be a director of a small business and if you are, it is in your best interest to ask the company meet these obligations as they come due and provide you with the evidence to support the payments have been made. Never assume no news is good news!

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