One of the reasons entrepreneurs choose to incorporate is because corporations generally provide limited liability. Most business owners understand this to mean that if the company experiences financial difficulty, the company’s debts stick with the corporation rather than becoming the personal responsibility of its directors or shareholders.
That general principle is only partly true. There are exceptions that anyone agreeing to be a director of a corporation in Canada should be aware of.
Canadian federal and provincial legislation contain a number of laws that make directors personally liable for specific obligations when a company becomes insolvent. largely to protect the government. Many directors are surprised to discover these personal liabilities only after creditors, regulators, or government agencies begin making claims against them.
Understanding where such personal exposure exists is one of the reasons early professional advice is so valuable.
A director can become personally liable in the following ways:
- Where the law imposes this obligation (e.g. unpaid wages and vacation pay, unremitted source deductions, GST/HST debts, certain construction holdback trust funds, etc.)
- Guarantees signed by the director (this is a liability as a guarantor not as a director) for such things as bank loans, property or equipment leases and sometimes, even supplier accounts.
Directors are generally jointly and severally liable for director liabilities. What does that legalese mean? The concept of joint and several liability is one of the most misunderstood aspects of directors’ liability, In simple terms, this means that each director may be responsible for the entire amount of a liability, not merely their share.
Such a liability need not divided by the number of directors. All the money can be collected against one director leaving that director to fight to recover their fair liability share from the other directors. For this reason, banks and the CRA will often focus their collection efforts on the directors who they believe has the greatest ability to pay.
The Most Common Director Liabilities We See
Every business is different, but in our experience the largest director exposures often arise from government remittances.
Unremitted Payroll Deductions
Amounts deducted from employee wages for income tax, CPP, and EI do not belong to the company. They must be remitted to the government. When these remittances are not made, directors may become personally liable under applicable legislation.
GST/HST Obligations
Businesses that collect GST/HST are holding tax amounts that ultimately belong to the government. During periods of cash flow pressure, some businesses use those funds to meet immediate operating expenses with the intention of catching up later. Unfortunately, that catch-up often never occurs, and the liability can grow significantly with interest and penalties. Directors can face personal exposure when these obligations remain unpaid.
Unpaid Wages and Vacation Pay
Federal and provincial legislation may impose personal liability on directors for certain unpaid employment obligations, including wages and vacation pay, subject to statutory limits and conditions.
Environmental Obligations
Environmental legislation can expose directors to personal liability where they authorize, permit, participate in, or fail to prevent certain environmental violations. This is a complex area of law and often requires specialized legal advice.
Trust Fund Obligations
Certain industries and statutes impose trust obligations on funds received or held by a corporation. Directors who fail to ensure these obligations are properly respected may face personal liability in some circumstances.
Why Financial Distress Increases the Risk
Most directors do not intentionally create liability issues. A business may encounter financial difficulty because:
- A major customer fails to pay
- Sales decline
- Interest rates rise
- Costs increase unexpectedly
- Financing becomes unavailable
When cash flow becomes strained, management often focuses on keeping employees paid, suppliers satisfied, and operations running. Unfortunately, this is also when statutory obligations such as source deductions and GST/HST remittances can fall behind. What begins as a temporary cash-flow solution can eventually become a significant personal liability for directors. By the time a bankruptcy occurs, or a receiver is appointed by a lender, or CRA collection activity intensifies, options will be much more limited.
Limited liability is not unlimited protection
The concept of limited liability has helped encourage entrepreneurship for generations because it allows people to invest, employ staff, and build businesses without automatically risking every personal asset they own.
That protection is therefore valuable, but it has limits.
Governments have introduced legislation that places personal responsibilities on directors in certain situations because they also have an interest in protecting tax revenues, pension plans, employees, and the environment. If directors were never personally accountable under any circumstances, those interests could be left unprotected when companies fail.
For that reason, several federal and provincial statutes create personal liability for directors in specific circumstances.
Not every director becomes personally liable.
The important point is understanding where those risks exist before decisions are made – particularly during periods of financial distress.
Why directors should understand these risks early
Directors can protect themselves.
The earlier that directors understand those risks, the greater the opportunity to develop a plan that protects both the business and the individuals responsible for directing it.
Directors should consider:
- Obtaining legal and accounting advice before accepting an appointment
- Understanding the corporation’s remittance obligations
- Maintaining records demonstrating oversight and compliance
- Monitoring source deduction and GST/HST filings
- Addressing financial problems early
- Seeking restructuring advice before a crisis develops
In family-owned businesses, it is common for spouses, children, or other relatives to be appointed as directors without fully appreciating the responsibilities involved. Anyone accepting a directorship should understand that the role carries legal obligations, not merely a title. Appointing family members as directors may mean that the whole family is at risk.
Common areas where directors may become personally liable
Although every situation is different, as both corporate and consumer insolvency professionals, we see several areas where the directors are personally impacted.
The two most prevalent (non- guarantee driven) and largest dollar amounts of personal liability appear to arise from unpaid payroll taxes and GST/HST.
The Income Tax Act expects amounts deducted from employees’ wages on behalf of CRA to be remitted promptly. Unpaid balances can create serious consequences for directors.
GST/HST obligations may also result in personal exposure under certain circumstances, particularly where legislative requirements have not been met.
Unpaid employment obligations (wages and vacation pay) can also be the directors’ personal liabilities.
Federal and Provincial environmental laws (such as the Ontario Environmental Protection Act) as well as case law, create avenues for the director to be held personally liable – particularly where the director permits an unlawful act to occur or fails to prevent foreseeable harm. This is a particularly complex area of the law and covers more business activities than the average director may envisage. It is important to obtain legal advice from an expert in this area.
There is also director personal liability for breach of trust. If the company is required to maintain certain funds in trust and the director fails to ensure these trust obligations are handled appropriately, then the director can be personally liable.
One or more of these examples of director liability arise in many of the corporate insolvencies we see and therefore a failure of the business is rarely just about the company’s balance sheet. Decisions made during periods of financial difficulty can affect directors personally if the legal risks are not properly understood. That’s why Baigel Corp. ensures that directors are aware of the liabilities that may possibly affect them personally, and if necessary, will put a plan together that deals with both the debts of the company and directors.
Insolvency is the time to ask questions, not make assumptions
Many directors assume they will have time to deal with these issues later if the company’s financial position worsens. Insolvency is often the point where important planning should begin.
A common sign of financial problems is when payroll taxes are not being remitted and HST returns not filed (or paid). These two tax systems rely in large part on self reporting. Often the crisis of, for example, paying a key supplier immediately takes precedence over remitting the payroll deductions and/or GST/HST. The hope is that the company will quickly catch up. Too often that catch up does not happen and the amounts not remitted grow with interest and penalties added. Then the business closes when a bankruptcy is filed (or an order into bankruptcy is made by the court) or perhaps a Receiver is appointed. or. Now the director can be personally on the hook for significant sums of money that is owed to the government.
A business that cannot pay its debts as they become due may still have opportunities to restructure, negotiate with creditors, improve cash flow, or pursue a formal corporate debt restructuring before bankruptcy becomes necessary.
Understanding both the company’s position and the directors’ potential exposure allows better decisions to be made while meaningful options still exist. Seeking advice early does not mean a business is destined to fail. In many cases, it provides the best opportunity to preserve enterprise value, explore restructuring options, and reduce risks for directors.
Every situation is different
One of the biggest mistakes directors can make is assuming that every insolvency follows the same path. The risks vary depending on the company’s structure, the nature of its debts, the industry in which it operates, and the decisions made leading up to the financial difficulties.
For example, a professional services firm will have very different concerns than a manufacturing company. A construction business faces obligations that differ significantly from those of a retailer or technology company.
That is why experienced restructuring advice considers the complete picture rather than looking at a single creditor or a single financial problem.
Directors’ liability extends beyond taxes
Many business owners immediately think about CRA when discussing directors’ liability, but Canadian legislation creates potential personal exposure in several different areas.
Depending on the circumstances, directors may become personally responsible for obligations relating to employee wages, vacation pay, payroll remittances, environmental matters, pension legislation, construction-related obligations, workplace safety requirements, and certain actions taken during periods of financial distress.
For example, legislation may impose liability relating to:
- Certain unpaid employee wages and vacation pay.
- Bankruptcy-related offences under the Bankruptcy and Insolvency Act.
- Environmental obligations under the Canadian Environmental Protection Act.
- Certain matters arising under the Winding-up and Restructuring Act.
- Pension obligations under Ontario’s Pension Benefits Act.
- Certain obligations under Ontario’s Construction Act.
- Workplace safety obligations under applicable provincial legislation.
The extent of liability depends on the facts of each case and the legislation involved. Simply because a company is experiencing financial difficulty does not automatically mean directors become personally responsible for every outstanding debt.
However, it does reinforce why directors should seek advice before making decisions that could unintentionally increase their personal exposure.
Corporate debt restructuring is about more than saving the business
Many people assume restructuring exists only to save a business.
While preserving a viable company is certainly one objective, effective corporate debt restructuring also seeks to protect directors, employees, customers, suppliers, lenders and other stakeholders wherever possible.
By addressing financial problems early, companies often have significantly more flexibility. Creditors may be willing to negotiate, operations can sometimes be reorganized, financing alternatives may still exist, and directors have greater opportunities to address statutory obligations before they become larger issues.
Waiting until creditors have begun enforcement proceedings often eliminates options that were available only months earlier.
The earlier you speak with a Licensed Insolvency Trustee the more options you may have to save the business and protect the directors from personal liability.
When Should Directors Seek Advice? Don’t wait until someone is knocking at the door
It is common for directors to delay seeking advice for many reasons, but it is often because they believe the company can trade its way out of temporary financial pressure. Sometimes that happens.
Unfortunately, there are also situations where directors continue injecting personal savings into the business, increasing personal guarantees, borrowing against their homes, or postponing difficult decisions while hoping conditions improve. Directors lending personal funds to a business can, and should, take security for their loan against company assets, but rarely do so.
By the time legal proceedings begin or government agencies commence collection action, directors frequently discover that several options which were available just months earlier are no longer realistic.
Too often we have seen business owners and directors sign consents to the appointment of a Receiver in order to buy a few weeks or months of forbearance from a secured lender, such as a bank. This decision to sign should only be taken after advice from a Licensed Insolvency Trustee.
Seeking advice early does not mean a company is destined to fail. In many cases, it provides the best opportunity to preserve the business while minimizing risks for everyone involved.
Some ways a director can protect themselves
Advice is best taken from a competent corporate lawyer or accountant before accepting appointment as a director. For the purposes of this article, we reference such approaches as a due diligence defence (including maintaining your own files of proof of compliance by the company).
In family-owned businesses we often see the founder name their spouse, children, etc. as directors and they willingly accept the “honour” and trust in them. Thus, the whole family may become personally liable for a corporate debt.
How Baigel Corp. helps directors
When a corporation faces financial difficulties, understanding the directors’ position is just as important as understanding the company’s financial position.
Every corporate insolvency presents its own legal, operational, and financial challenges. That is why Baigel Corp. begins by understanding the complete situation rather than recommending a one-size-fits-all solution.
When we first meet directors, our Licensed Insolvency Trustees work with directors to immediately identify potential areas of personal liability, explain the legislation that may apply, and develop practical strategies for addressing both the company’s financial obligations and any personal risks that may exist.
Where appropriate, we assist with corporate debt restructuring, negotiations with creditors, formal insolvency proceedings, and planning designed to reduce uncertainty for directors while maximizing available restructuring options. Directors can make informed decisions before options disappear.
Speak with Baigel Corp.
If your company is experiencing financial difficulty, understanding directors’ liability before insolvency hits or creditors begin enforcement action can make a significant difference.
Baigel Corp.’s federally licensed and regulated Licensed Insolvency Trustees provide confidential consultations to help directors understand both the company’s financial position and assess their own potential personal exposure. Where restructuring is possible, we work to develop practical solutions that address the business’s debts while helping directors navigate the legal responsibilities that may arise during insolvency.
The earlier you seek advice, the more opportunities there are to protect both the future of the business and the people responsible for leading it. Protecting directors starts with understanding the risks. The best time to ask questions is before a problem becomes a crisis.
This article provides general information about directors’ liability and corporate insolvency in Canada. It is not a comprehensive review of the topic and does not constitute legal advice. The laws that apply and the extent of any personal liability depend on the circumstances of each case and the relevant jurisdiction. Directors should seek independent legal advice about their obligations and potential personal exposure and consult a Licensed Insolvency Trustee about restructuring and insolvency options.
*Baigel Corporation is a federally regulated Licensed Insolvency Trustee