Directors and officers of corporations are often subject to potential personal liabilities as a result of their positions. This potential for personal liability may be increased in the insolvency context, where a corporation’s creditors will seek to collect on certain debts from alternate sources, such as directors and officers. Directors and officers often utilize insurance and various court mechanisms in order to mitigate their personal liabilities. That said, it is important to be aware that some personal liabilities of directors and officers arising as a result of, or in conjunction with, a corporation’s insolvency likely cannot be mitigated by the above mechanisms.
In Canada, the traditional means of mitigating directors’ and officers’ liability are as follows:
Insurance: The exact nature of the insurance provided to a director or officer for liabilities incurred as a result of holding that position is a matter of negotiation between the insurer and the insured.
Directors’ and Officers’ Charges: These are court-ordered priority charges over the assets of the insolvent corporation to cover certain liabilities arising after the commencement of insolvency proceedings and accruing to directors and officers. For restructurings commencing after September 18, 2009, in order to obtain an order granting a directors’ or officers’ charge, one will have to establish that adequate indemnification insurance could not have been obtained at a reasonable cost. The charge will not cover any liability incurred as a result of the director’s or officer’s gross negligence or wilful misconduct.
Compromises or Releases of Claims Against Directors: These releases or compromises will often be a part of a court-approved restructuring plan or proposal under either the Companies’ Creditors Arrangement Act (“CCAA”) or the Bankruptcy and Insolvency Act (“BIA”).
Examples of claims against directors and officers in an insolvency context that are commonly accounted for through one of the above mechanisms are:
- claims by employees for unpaid wages and vacation pay;
- claims by taxation authorities for unremitted income taxes or excise taxes that were to be held in trust for the Crown; and
- WSIB and Employer Health Tax Act liabilities.
These mechanisms may not prevent personal liability when directors or officers act outside of the scope of the responsibilities legitimately attributable to their director or officer positions. This is so even if such actions are taken on behalf of, or for the benefit of, the corporation that those directors or officers represent. This is a subtle but important distinction.
A few examples may be useful in explaining the above concept:
- In their capacities as members of a committee administering the pension plan of Slater Steel Corporation, members of that corporation’s board of directors were not eligible for a release granted to directors in the Slater Steel Corporation CCAA proceedings. Those directors may be exposed to up to $20 million in personal liabilities related to the Slater Steel Corporation pension plans.
- Guaranteeing a corporation’s debt or entering into other contractual relationships in one’s personal capacity are clear examples of actions that are beyond the scope of a director’s or officer’s role. Liabilities from these guarantees and other personal contractual relationships will generally not be compromised under the CCAA or BIA.
- Claims arising from allegations of misrepresentations made by directors to creditors or from allegations of wrongful or oppressive conduct by directors may not be compromised under the CCAA or BIA.
Despite the potential liability attributable to directors, it is also unwise for a director to shy away from his or her duties as director of an insolvent corporation, as a board of directors has a fiduciary duty to that corporation that must be carried out.
Directors’ and officers’ liability is a matter that should be thoroughly and carefully considered so that individuals may responsibly exercise their fiduciary duties in those capacities. Prudent directors and officers should minimize their liability by ensuring the timely satisfaction of those obligations outlined above. Further, insurance policies should be carefully reviewed in order to fully understand the limits of such insurance and, in the context of a formal restructuring in Canada, one must be mindful of the limitations placed on directors’ and officers’ charges.
With the benefit of legal advice, Canadian directors and officers may take steps in advance of a formal restructuring proceeding that will enable them to continue to carry out their stated duties and functions so vital to the success of a restructuring.