How to recognise insolvency

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The Corporations Act imposes a duty upon company directors to prevent a company incurring a debt while it is insolvent. The penalty for directors in doing so is for them to be made personally liable for the credit incurred by the company when it is insolvent. The challenge for professional advisers therefore is to recognize the signs of insolvency so that corrective action can be taken early.

Insolvency is best determined by a simple cash flow test. Can the company meets its debts as and when they fall due? To determine insolvency, it will not be necessary to refer to formal financial statements. The key to the determination of solvency will be whether there exists creditors who accounts are overdue and can’t be paid.

As insolvency practitioners, we consider the following elements are relevant and should be looked at when determining whether a company is insolvent:

  • Are the company’s statutory creditors being paid on time?
  • Is superannuation being regularly remitted to the employees’ super funds?
  • Are there trade creditors who have balances outstanding in the 60 and 90+ day column on their statements?
  • Has the company been exceeding its approved overdraft limit?
  • Have any of the company’s cheques been dishonoured?
  • Have any suppliers ceased trading on credit terms and are insisting on cash on delivery (COD) payment?
  • Are the company’s accounting records in disarray?

In addition to normal balance sheet assessments, members should consider a review of the above alert signs of insolvency when they are called upon to consider whether a company is insolvent or not.

Macks Advisory is a firm that practices exclusively in the areas of insolvency and business reconstruction and members with queries are invited to contact Peter Macks on 08 8231 3323 or by emailing [email protected]