Early Warning Signs Your Company Is Insolvent

This is not only a commercial question. As a director you can become personally liable for debts the company takes on while it is insolvent, and the test the law applies is not whether you knew. It is whether there were reasonable grounds to suspect insolvency at the time (s 588G).

That matters because it puts the warning signs themselves in evidence. If suppliers had you on stop credit and the ATO had been unpaid for eight months, a court is unlikely to accept that insolvency was a surprise. The signs below track the indicators the courts have relied on since ASIC v Plymin (2003) 47 ACSR 124 — which is exactly why they are worth reading honestly rather than defensively.

The good news in that is the reverse also holds. Directors who act on the early signs have options. Directors who act on the late ones usually do not.

1. 1.Continuing trading losses. Not one bad quarter, but a run of them. Losses drain the buffer that would otherwise absorb a shock.
2. 2.Overdue tax. Unpaid BAS, PAYG withholding or superannuation is the single most common indicator. It is also the most telling, because the ATO is the creditor most businesses pay last and the one with the strongest recovery powers.
3. 3.Suppliers tightening terms. Being moved from 30 days to seven, or to cash on delivery, means your suppliers have already formed a view about your solvency.
4. 4.No further finance available. The bank declines an increase, the overdraft is at its limit, or a facility is not renewed. Access to credit is what separates a cash flow problem from insolvency.
5. 5.Dishonoured payments. Bounced direct debits, declined cards, cheques presented twice. Each one is recorded somewhere.
6. 6.Paying creditors outside terms as a matter of routine. Not late once, but a payment cycle built around who is shouting loudest.
7. 7.Special arrangements with creditors. Payment plans with the ATO, informal deals with key suppliers. These are sensible steps, but the need for them is itself an indicator.
8. 8.Statutory demands, judgments or letters of demand. By this stage a creditor has escalated to formal recovery. A statutory demand starts a 21-day clock that cannot be extended (David Grant & Co v Westpac (1995) 184 CLR 265).
9. 9.Directors funding the company personally. Money going in from personal savings, credit cards, family, or a related entity to make payroll. This is often the last sign before a collapse and the one directors least like to name.

Two more that do not appear on any official list but show up constantly in practice: the bookkeeping falls behind, and the director stops opening the mail. Both mean the numbers have become something to avoid rather than manage, and both make every later step harder.

For most small companies the ATO is the largest creditor and the one whose conduct changes first. Its escalation is fairly consistent, which makes it a useful gauge of how late it is.

1. 1.Automated reminders and statements of account. Routine. Not a signal by itself.
2. 2.A firmer letter, or a call, proposing a payment arrangement. The debt has been noticed and assigned. Still an early stage, and the stage at which arrangements are easiest to get.
3. 3.An arrangement declined, or one you have already defaulted on. A second arrangement is harder to obtain than the first, and a default is recorded.
4. 4.Disclosure of the debt to credit reporting bureaus. Where eligibility criteria are met, business tax debts of at least $100,000 that have been overdue for more than 90 days can be reported to credit reporting bureaus, where the business has an active ABN and is not effectively engaging with the ATO. Once that happens, suppliers and financiers see it.
5. 5.A director penalty notice. Personal liability, on a short clock. This is not a warning about the company — it is action against you.
6. 6.A garnishee notice or statutory demand. Recovery has begun.

The useful thing about this sequence is that it is visible. A director who has had one arrangement decline and a firmer letter is at a different point from one holding a garnishee notice, and the options at those two points are not the same. If you are somewhere on that list, the position is worth establishing now rather than at the next step.

There is no threshold. Courts look at the overall picture rather than counting items on a list, and a single serious sign can matter more than four mild ones. A company with eight months of unpaid PAYG withholding has a more urgent problem than one that dishonoured two direct debits in a quiet January.

Two questions are more useful than any count. First: is the trend improving or worsening? A business that owed the ATO $90,000 in March and $60,000 in September is doing something right. The reverse is a trajectory, not a snapshot. Second: if your three largest creditors all demanded payment in full next week, could you pay them? If the honest answer is no, the company is in the territory the law is concerned with, whatever the accounts say.

Being unprofitable is not the same as being insolvent, and a solvent company can have a terrible month. What matters is the ability to pay debts as they fall due — a distinction worth understanding properly before drawing conclusions about your own position.

Delay does not preserve options. It closes them, in a fairly predictable order.

Small Business Restructuring has entry conditions. Total liabilities must not exceed $1 million on the day the restructuring begins (reg 5.3B.03), the employee entitlements that are due and payable have to be paid (s 453C(1)(a)), and tax lodgements have to be substantially up to date (s 453C(1)(b)). Every month of arrears pushes a company further from all three. Liabilities grow with interest and penalties. Unpaid entitlements accumulate. Lodgements slip further behind.

Unlodged returns carry a separate risk. Where BAS or PAYG withholding is unlodged more than three months after its due date (Division 269 of Schedule 1 to the Taxation Administration Act 1953), and where a superannuation guarantee charge statement is unlodged past its due date, for which there is no grace period at all, a director penalty notice becomes a lockdown notice — which makes the director personally liable in a way that appointing an administrator or liquidator will not undo.

And a creditor may take the decision out of your hands. An unsatisfied statutory demand leads to a wind-up application, and once that is on foot the restructuring conversation is largely over.

1. 1.Get the numbers current. Not perfect, current. A creditors list with ages, a 13-week cash flow, and the real ATO balance including interest.
2. 2.Check your lodgements before your payments. Lodging is separate from paying, and lodging late is what converts a debt problem into a personal one. A company can owe the ATO and still qualify for restructuring; a company that has not lodged often cannot.
3. 3.Work out whether the business earns money without the legacy debt. Strip out the arrears and the interest. If the operation is profitable, the problem is the balance sheet, and balance sheets can be restructured. If it is not, that is a different conversation and worth having honestly.
4. 4.Write down what you did and why. Contemporaneous records of the steps you took, the advice you sought and the information you relied on are what the statutory defences to insolvent trading are built on (s 588H).
5. 5.Get advice before the next escalation, not after it. The options available to a director holding a payment plan are wider than those available to a director holding a wind-up application.

If you recognised three or more of these signs in your own company, the useful step is not to decide what to do about it yet. It is to find out where you actually stand — whether the business is viable once the legacy debt is set aside, and which formal options you still qualify for. Both of those questions have factual answers, and both get harder to answer well the longer they wait.