With whom are you contracting?
An essential and sometimes overlooked aspect of commercial relationships with clients or customers is identifying exactly who the client or customer is.
A person or a company may register a business name under which the person or company trades. However, a business name is simply a name and not a legal entity.
A trust is also not a legal entity. If there is a trust involved, your contract needs to be with the trustee of the trust.
What are some things you should do before entering into a contract?
In all cases, if a customer or counterparty to a contract provides you with a business name, obtain an ASIC search for the business name, which will show you the name of the entity which owns the business name. It is the entity which owns the business name with whom you are contracting.
Individuals or sole traders
In contracting with an individual, it is critical to verify the individual’s identity, due to the prevalence of fraud and identity theft. Proof of the person’s business or residential address should also be obtained.
In contracting with a company, you should obtain a company search, which will provide you with important information, such as the identity of the company’s directors, its registered office, and how much issued share capital the company has.
If the company has two or more directors, it is good practice to ensure that any contract with the company is signed by at least two directors, as this will allow you to rely on an assumption that the document has been duly executed on behalf of the company: see subsections 127(1) and 129(5) of the Corporations Act 2001 (Cth).
You should also take steps to ensure that you are actually dealing with the directors of the company, or persons who are authorised to bind the company. Obtaining proof of identity documents for the directors that bear the director’s signature can help in this regard.
It is important to note that generally speaking, directors are not liable for the debts of a company (important exceptions include directors who allow a company to trade whilst insolvent).
There is no way of telling from a company search whether a company has assets or not. However, if a company has little in the way of issued share capital, you should assume that it will have little in the way of assets.
It is advisable to obtain a search of a company on the Personal Property Securities Register (PPSR), as this will disclose the extent to which the company has already granted security over its assets.
A trustee can be an individual or a company, but more often than not, the trustee of a ‘trading trust’ will be a company.
Before contracting with a trustee, it is best practice to obtain a copy of the trust deed to ensure that the trustee has the power to enter into the contract, or at least obtain a warranty from the trustee to the effect that it has power under the trust deed to enter into the contract.
Types of security
Guarantees and indemnities
When it comes to companies, ideally you should (at a minimum) obtain personal guarantees from the directors.
For a greater level of protection, you should also seek an indemnity from the directors, particularly for protection against unfair preference claims by liquidators (discussed in the second section of this paper).
Security interests in personal property
A general security agreement (GSA) over the assets and undertaking of the company is also advisable, although if the company has little in the way of assets then a GSA will be of little or no value.
Retention of title agreements are a more reliable form of security as it provides security over tangible property with a known value. However they must be properly drafted in order to be enforceable.
It is critical that you register any security interest in personal property (such as GSAs and retention of title agreements) on the PPSR.
Security over real property
Charges or mortgages over real property are the most ideal form of security but may not be practical in a standard commercial arrangement.
A charge has the benefit of being a less onerous and less threatening obligation on the debtor, however, unlike a mortgage, default does not entitle you to possess and sell the charged land. Instead you would be required to commence proceedings in the Supreme Court to get an order to sell the land.
First step in debt recovery
Debt recovery usually begins with a letter of demand. There are some obvious and critical elements in a letter of demand:
- it should specify the amount of the debt outstanding, preferably by reference to invoice numbers and invoice dates;
- even though payment is overdue, it should specify a reasonable time in the near future by which payment is expected;
- it can foreshadow legal action if payment is not made within that time.
If the debtor does not pay…
Creditor’s statutory demands
If the debtor is a company, you have the option of issuing a creditor’s statutory demand. This is a demand in a prescribed form found in a schedule to the Corporations Regulations. Unless you have obtained a judgment against the debtor, it must be accompanied by an affidavit which verifies that the debt is owed.
After the statutory demand is served on the debtor company, the company has 21 days within which to:
- pay the debt in full;
- compromise the debt to your satisfaction; or
- make an application to the Supreme Court of Federal Court to have the demand set aside.
If the company does not do any of these things within the 21 day period, it is deemed to be insolvent.
Because of the drastic consequences for non-compliance with a statutory demand, the law imposes strict requirements on the person issuing the statutory demand to ensure that:
- the demand is in the correct form prescribed by the Corporations Regulations;
- it is served properly on the debtor; and
- it accurately describes the debt or debts that are owing.
Failure to comply with these requirements can result in the demand being set aside. If there is a genuine dispute about the debt, this can also result in the demand being set aside.
Commencing court proceedings
If the debtor is an individual, then you will need to commence court proceedings. Alternatively, if the debtor is a company but you anticipate that the debtor will dispute the debt, you may decide to commence court proceedings to first obtain a judgment before issuing a statutory demand.
Court proceedings can be a long and costly process. You will need to give consideration to the following matters before commencing proceedings for debt recovery:
- Is the quantum of the debt worth spending legal fees on?
- Does the debtor has sufficient assets to satisfy a judgment in your favour?
- If you are successful, you will usually receive a costs order in your favour however the costs order will ordinarily not cover all of your lawyer’s fees.
- If you are unsuccessful, you will usually be ordered to pay the other party’s costs.
If you have obtained a judgment debt and the debtor refuses to pay the judgment debt, you can then issue a statutory demand that attaches the judgment (if the debtor is a company) or issue a bankruptcy notice (if the debtor is an individual).
A person who is served with a bankruptcy notice has 21 days after service within which to:
- pay the debt in full;
- compromise the debt to your satisfaction; or
- make an application to a Court (usually the Federal Circuit Court) to have the bankruptcy notice set aside.
As with statutory demands, the requirements for issuing and serving bankruptcy notices are quite strict.
- Good debt management starts with making sure you know with whom you are contracting.
- Have some type of security in place if you are giving credit.
- Carefully consider which debt recovery options are appropriate in your circumstances.
For more information, contact Daniel Fleming on firstname.lastname@example.org
This article is intended to provide general information in summary form on a legal topic, current at the time of publication. The contents do not constitute legal advice and should not be relied on as such. Formal legal advice should be sought in specific circumstances.