Do members of the governing body have potential personal liability? If so, what are the key means for protecting against such potential liability?
They may be liable for damage caused by their action or omissions to the company. Members are liable jointly and severally with their entire personal property, but are only liable if they personally have acted unlawfully and culpably. D&O liability insurance policies for both directors and members of the supervisory board have become standard in most Austrian JSTs and LLCs. The best way to protect against liability is to comply with the standards of the Business Judgment Rule: make a business judgment on an informed basis, without any conflict of interest and in the best interest of the company.
As regards the liability of the directors, the directors shall not be held personally liable for the obligations assumed on behalf of the company as a result of a regular act of management. However, the directors shall be held liable in civil lawsuits for the losses that they cause owing to acts of negligence or fraudulent intent and in violation of the law or the company’s by-laws. Accordingly, directors (and executive officer alike) are prohibited from taking any of the following acts:
- discretional acts at the company’s expense;
- any acts not authorized by the general meeting or board of directors, when such authorization is required;
- lending of the company’s funds or assets; or
- unauthorized receipt of any direct or indirect personal advantages from third parties, on account of their position.
Note that the directors shall not be liable for unlawful acts performed by other directors, unless they are involved with these directors, or they neglect to perceive them or if, having knowledge of them, fail to act to prevent their performance. However, directors are held jointly liable in the case of decisions taken by the board of directors, unless they specifically vote against them.
In this particular, we note that each of its members is personally liable for any act of omission or negligence of the board of directors, and a dissident director shall express his or her disagreement regarding the resolutions taken through the clear and written register in the minutes of the meeting of the relevant administration body, to release him or herself from any eventual civil liability. The director who agrees with the performance of acts that violate the law or the company’s by-laws shall be held jointly liable for the losses resulting from said act.
If a manager is held liable for any damage to the company, the company may file a lawsuit for damages upon prior resolution of the general meeting. This lawsuit does not jeopardize any other court remedies available to the shareholders or third parties directly injured by the management acts.
The most common tools available to mitigate directors’ and officers’ liability are (i) D&O insurance, (ii) E&O insurance and (iii) letter of indemnity, hold harmless letters or comfort letters.
D&O insurance are insurance policies that cover the losses incurred by individuals with management power being held liable for acts performed in the ordinary course of business under their responsibilities as directors or officers of the company. According to the rules that regulate D&O insurances in Brazil, the purpose of a D&O insurance policy is to cover the risks held by individuals that have management powers in a company. Even though current rules provide that coverage may be extended to include individuals or companies retained to advise the policy holder, its subsidiaries or the insured parties, such as legal counsels, consultants, personal assistants, etc., the offer of such extended coverage by insurance companies is optional.
Contracting a Professional Liability/Error and Omission (E&O) insurance policy is another alternative to protect managers from liabilities related to the performance of their activities as a board member. Typically, a Professional Liability/E&O insurance covers damages arising from error and omissions (including acts carried out with negligence, imprudence or malpractice) carried by the professionals of a company.
A third option is a letter of indemnity. Typical, letters of indemnity provide for the company’s or its shareholders/partners undertaking to indemnify managers for losses arising under certain circumstances. It is possible to create a structure where an insurance company reimburses the company (or its shareholders/partners) for payments made under the letter of indemnity.
Breach of these duties which causes damage to the company can result in liability to the company, which can be asserted by the company itself or, if the company does not act, by one or more shareholders on its behalf; they may act either individually or, if they represent a minimum percentage of its capital (10% for an SARL or, for an SA, SCA or SAS, a lower percentage calculated on a sliding scale of from 5% to 0.5), as a group. A shareholder can on its own behalf assert liability against board members or executive officers only to the extent that the shareholder suffered damages separate from the damages suffered by the company. A third party can assert liability against board members or executive officers only for acts committed outside the context of their official duties. Liability of board members can be joint, for example assessed against the entire board, or assessed only against individual board members. Clear opposition by a board member to a given board action can be an effective defence against liability.
In case of bankruptcy proceedings, members of the board of directors, an executive officer or anyone deemed to be a de facto manager can be held liable to the bankruptcy administrator for the shortfall in company assets resulting from “management errors”.
Board members, executive officers or de facto managers may also be held jointly liable with the company to pay taxes and penalties if their serious and repeated failures to observe tax rules have made it impossible for the tax authorities to collect such taxes and penalties due by the company.
Insurance is available to cover such liability, generally with exclusions including for acts intended to inflict the actionable damage; acts falling outside the normal exercise of board or executive functions; damages suffered by third parties; and civil and penal fines.
Board members and executive officers can also be subject to penal sanctions for failure to observe various rules relating to the administration and operation of companies, for example compliance with workplace safety standards; presentation of inaccurate or misleading accounts; distribution of dividends not properly justified by the accounts; or use of company assets or credit in bad faith in a manner not in its interest but to benefit the company’s managers or other companies in which they are directly or indirectly interested (abus de biens sociaux). Exposure to penal liability can in some cases be avoided by delegating responsibility (for example, for supervision of safety standards) to appropriately qualified employees.
A violation of the duty to perform their service with the care and diligence of a prudent and conscientious manager including the breach of applicable legal provisions results in personal liability for the Management Board and Supervisory Board members, unless the relevant member can prove that no breach of duty has occured. Management and Supervisory Board members are jointly and severally (gesamtschuldnerisch) liable for any violation by any member of the relevant board.
The company may arrange for a D&O insurance for its Management Board and Supervisory Board members to protect them from such liability. The insurance policy must include a deductible (Selbstbehalt) of the Management Board members of at least 10% of the loss up to at least 150% of the fixed annual salary of the relevant board member.
The members of the board bear personal liability against the company and third parties. Each member of the board of directors shall be liable to the company for damage suffered as a result of an act or omission which constitutes an infringement of his duties.
This liability shall not exist if the member of the board of directors proves that in the performance of his/her duties he/she has performed the diligence of the prudent businessman operating in similar circumstances. Such diligence shall be judged on the basis of the status of each member and the duties assigned to him by law, statute or decision of the competent corporate bodies.
If a joint act of more than one member of the board of directors causes damage or if more than one person is responsible for the same damage, they are all jointly liable. The court may also regulate the right of recourse between the liable directors.
Such personal liability may be waived if acts or omissions of the members of the board are based on a lawful decision of the general meeting or relating to a reasonable business decision taken in (a) in good faith, (b) on an adequate basis of information, for the specific conditions, and (c) solely to serve the corporate interest. The members of board have the burden of proving the above requirements. The Court may also consider that there is no liability for acts or omissions based on a suggestion or opinion of an independent body or committee operating in the company in accordance with the law.
Same liability shall also apply to persons who have been delegated powers of representation and management by the board or to persons appointed in the board of directors whose appointment is defective. The company's claims time-barred three (3) years after the act or omission.
Furthermore, personal liability is awarded to directors and managers in tax and social security legislation. Such liability extends to personal assets of the directors and managers.
Directors and managers may also be held criminally liable for certain offences set out in the Law.
Protection against such liability may be granted by the company pursuant to D&O insurance or letter of indemnity by the shareholder(s), as the case may be.
Directors may incur civil and criminal liabilities if they have breached (or threatened to breach) statutory, common law or equitable principles of directors’ duties. If the directors of a company engage in improper acts such as making secret profits from transactions, diverting or usurping corporate opportunities, misappropriating company’s assets and exercising directorate power for improper purposes, the shareholders may bring a claim against the wrongdoing director by common law or the Companies Ordinance if they can demonstrate that they have suffered losses. The Companies Ordinance permits the shareholders of a company to present a petition to the Court of First Instance in Hong Kong if the company’s affairs have been conducted in a manner unfairly prejudicial to the interests of the shareholders generally or of one or more shareholders (sections 724, 725 of the Companies Ordinance).
To protect directors against potential liability, directors are advisable to declare their interests before making any corporate decisions, and keep in mind their obligations to comply with the fiduciary duties. Companies should also provide trainings to directors from time to time to clarify the statutory and common law duty of care, skill and diligence with a view to provide clear guidance to directors, and more prudently, take out insurance of its directors or directors against the damages that may arise from liability in connection with any negligence, default, breach of duty or breach of trust in relation to the company and the legal costs that may incur in defending the directors in any civil and criminal proceedings (section 468(4) of the Companies Ordinance). Pursuant to the Corporate Governance Code, listed companies should arrange appropriate insurance cover in respect of legal action against its directors (paragraph A.1.8 of the Corporate Governance Code).
Directors who neglect their duties are liable to the company for the resulting damages. Where directors are grossly negligent or knowingly fail in performing their duties, such directors are liable to third parties and their shareholders directly for the resulting damages.
However, if directors can demonstrate that they did not fail to exercise their duty of care in the performance of their duties, they generally will not be held liable.
In addition, some directors' liabilities may be discharged to a limited extent by shareholders resolution or, if the articles of incorporation so provide, board resolution. Approval of all shareholders is required to discharge the directors' liability in full. Also, a company may, if allowed by the articles of incorporation, enter into contracts with its directors who are not executive directors or employees, and with its statutory auditors, limiting their liability under such contracts. Directors, statutory auditors, and executive officers are also permitted to take out liability insurance at the company's expense.
Members of the governing bodies may be personally liable towards the company, shareholders and creditors under the Companies Code. Such members are subject to a presumption of liability towards the company, unless they can evidence acting according to business judgment criteria. In addition, they may pay a deposit or obtain D&O insurance (mandatory for listed companies and significant private companies).
(1) Potential personal liability
The KCC sets forth the fundamental principles concerning civil liability of directors of a Company. If a director acts in contravention of the requirements of the laws, regulations or the AOI, or neglects to perform his or her duties, such director will be liable (and in cases of multiple directors, jointly and severally liable) for damages incurred by the Company as a result of such acts or omissions. If such acts were taken pursuant to a BOD resolution, all directors who voted for such resolution will be jointly and severally liable. By law, directors are required to compensate the Company for all damages suffered by the Company having reasonable causal connection to the improper act.
If a Company does not take proper action to seek damages from the directors, its shareholders can initiate a derivative action pursuant to the KCC. Any shareholder(s) holding at least 1% of the total number of issued and outstanding shares (or, in the case of a listed company, 0.01% shareholding for a period of at least six months) may demand in writing that the Company initiate an action to hold the directors liable. If the Company does not initiate such action within 30 days of such shareholder request, the shareholder(s) may initiate the derivative action on behalf of the Company against the responsible directors.
In order to protect third parties, the KCC provides that a director will be liable to a third party for any damages incurred by such third party as a result of the director’s neglect of his or her duties to the Company, if such neglect results from wrongful intent or gross negligence. All directors involved in the decision-making process are jointly and severally liable, and in the event of any action taken pursuant to a resolution of the BOD, the directors who voted for such resolution will be jointly and severally liable.
Directors may also be exposed to criminal liability if they breach their fiduciary duties (e.g., breach of trust under the Korean Criminal Code). For a director to be found criminally liable, such director must have (i) acted with criminal intent and (ii) either gained benefit or caused a third party to gain benefit, resulting in damages or threatened damages to the Company.
2. Key means for protection
Director and officer liability insurance is available in Korea, and the subscription of such insurance policies by companies is common practice in Korea. The risk insured by liability insurance is the liability of directors and statutory auditors of a company for their breach of duty to the company and the company’s shareholders or members subject to specific terms and conditions of the relevant insurance policies.
Under the KCC, a Company may exempt its director from liability for damages. Specifically, a director can be exempt from liability for any amount of damages exceeding 6 times the amount of his or her remuneration for the past 1 year prior to the date on which a director caused the underlying activity. In other words, a Company’s AOI can provide to limit the amount of a director’s liability to 6 times the amount of annual remuneration. An outside director’s liability for damages may be limited to 3 times the amount of annual remuneration. As a general matter, and notwithstanding these limitations, the shareholders can vote to entirely exempt a director from liability via unanimous resolution.
Members of the board and executive management as well as other persons who have significant influence on the company’s decision making process, are jointly and severally liable for damages caused by intentional or negligent breach of their duties. Each member can be held liable with its entire assets. The plaintiff may be any individual shareholder, the company itself or, in the case of the company’s bankruptcy, any creditor. In some instances, board members (and third persons who act as such) may also be held criminally liable, including without limitation in case of violation of certain requirements set forth in the OaEC (e.g. payments of prohibited severance benefits).
Key means for protection are the following: (i) Acting in compliance with the business judgment rule, which means that if directors take decisions in a flawless decision-making process, on the basis of appropriate information and free from conflicts of interests, then the courts only examine whether a business decision was reached in a sound manner; (ii) setting up D&O insurance, which today is standard in nearly all companies in Switzerland; (iii) entering into appropriate indemnity arrangements, although their enforceability is not fully settled in many respects, and (iv) the shareholders granting discharge to the members of the board of directors and the officers, meaning that they as well as the company are excluded (or at least limited) from bringing forward any action against the directors for facts that were known at the shareholders’ meeting.
Corporate directors may face personal liability for their actions on behalf of the corporation if they breach the duty of loyalty, act in bad faith, engage in intentional or illegal misconduct or conflicted transactions. Directors may be sued directly by a shareholder, or a shareholder may bring a derivative suit against them. A derivative suit is a lawsuit brought on behalf of the corporation.
There are three ways a director may be protected from personal liability. First, under the laws of some states, a company can implement an exculpation provision in its Certification of Incorporation that eliminates personal monetary liability for breaches of the duty of care. Second, a corporation can implement an indemnification provision in its Certificate of Incorporation, in its bylaws, by contract or by shareholder vote that mandates that the company repay the indemnitee for liability associated costs and costs of defense. Indemnification provisions generally only apply to actions in good faith that are reasonably believed to be in the best interests of the company. In the case of claims by or on behalf of the company, indemnification is limited to the cost of a successful defense. Third, a corporation may obtain liability insurance on behalf of its directors and officers.
LLC management may face the same issues as directors on a corporate board. An LLC can apply any of the same limitations on its managers that a corporation may place on personal liability of directors.
Directors can be personally liable in a number of circumstances, including:
(A) breach of statutory or common law duties;
(B) wrongful trading, fraudulent trading and misfeasance under the Insolvency Act 1986;
(C) market abuse under the EU Market Abuse Regulation;
In certain circumstances, directors may also be disqualified from holding office. As a general rule under the Companies Act 2006, a company may not exempt a director from, or indemnify him against, liability in connection with any negligence, default, breach of duty or breach of trust by him in relation to the company. However, there are exceptions, including one permitting companies to provide such an indemnity pursuant to a contract of insurance, although such insurance will usually not pay out if a director is found liable for criminal and certain other acts such as regulatory offences.
It is common for companies to purchase D&O insurance for board members and for articles of association to contain provisions expressly indemnifying directors in certain circumstances.
Directors have potential personal liability for actions of the corporation under a variety of statutes in Canada including corporate law, employment law, environmental law, tax law and securities law. Corporate law allows a corporation to indemnify directors acting in such a capacity provided that the director has acted honestly and in good faith with a view to the best interests of the corporation. Corporate law also permits a corporation to purchase insurance against any liability which may be incurred by directors acting in such capacity.
In case of breach of the mentioned duty of care and duty of loyalty (see point 11 above), directors shall be jointly liable towards the company for any damages caused by or deriving from their negligence, with the exclusion of the powers attributed, as the case may be, to the managing director(s) or the executive committee, if any.
However, non-executive directors are not totally exempt from liability. In case the relevant member: (a) negligently fails to obtain data or information from the managing director (s) or the executive committee, or (b) knew that a detrimental action was being carried out, but did not do his/her best to prevent or limit the consequences thereof, he/she shall be jointly liable with the managing director (s) or the members of the executive committee.
It should be noted that the so-called business judgement rule applies. Namely, directors shall not be held liable for any damages suffered by the company, provided that the latter are part of the range of choices that could be considered ex ante as potentially advantageous (or in any case harmless) for the company by a person having the standard of care and knowledge which could be expected from the director of a company operating in the same business sector. It is worthwhile noting that, even though the business judgment rule prevents the courts from plunging into the merits of managerial evaluations, courts are not prevented from evaluating whether the decisions of the directors have been taken with gross negligence or reckless disregard and/or with the actual awareness that said decisions would cause a prejudice to the company.
As stated in Question 2, although the board members are liable for the acts or negligence of the company unless they have acted in fault in this regard, they are responsible for the governmental debts of the company with their personal assets without any limitation. (Law on Collection Procedure of Assets No.6183, repeating article 35).
In addition, civil and criminal liabilities of the board members are regulated under the separate articles 553 and 562 of TCC respectively. As per the civil liability, the board members are liable for the damages to the company, its shareholders and creditors in the event that they violate their obligations set forth in the law and AoA. As per the criminal liability, for instance, the board members are responsible for the losses incurred due to hiding the truth, unlawfulness and false, fraudulent and fake documents, statements, commitments and warranties in case the directors acted in fault while preparing these documents or declarations (TCC, article 549).
BoD can transfer the management to the other members of BoD or the third parties partially or completely with an internal directive to be registered and published. By way of this, the liabilities of the said members can be restricted (TCC, article 367). The delegating members do not have any responsibility with regards to the decisions and acts of the assignee unless it is proven that the assignor did not show reasonable diligence to the selection of the assignee. However, this restriction is only effective in the company that the restriction cannot be alleged towards the third parties acting in good faith, unless the registered and published restriction is allocated to the affairs of the company headquarters or branch or it is related to the joint signatures of the members (TCC, article 371).
It is possible to get insurance for the board members with regards to damage of the company incurred due to the fault of the board members while carrying out their duties under the laws. In case the damage is insured at a price exceeding 25% of the public company’s capital and the public company is secured, this must be published at Capital Markets Board bulletin and additionally in the stock exchange bulletin if the shares of the company are traded on the stock exchange (TCC, article 361). According to CPG, the damage of the company must be insured at a price exceeding 25% of the company capital and this shall be published at Public Disclosure Platform (CPG, article 4.2.8).
Members of the board do not contract any personal liability in relation to the engagements of the company. They are however responsible towards the company for the execution of their mandate and shall be liable for faults committed in their management. The board is jointly and severally liable for damages resulting from a breach of the Companies Act and the articles of association.
Board members as well as other JSC and LLC officials are personally liable to the company for damages caused by their action or failure to act. In addition, JSC shareholders and the directors representing them on the supervisory board are jointly liable for damages caused to the company by such director. Employment contracts may set additional liability for directors and top executives.
As a rule, a company official will not be held liable if he/she proves that the damages were not his/her fault. Therefore, the best way to protect oneself against potential liability is to act with prudence and in good faith pursuant to law, the provisions of the company`s charter and one`s employment contract. Some insurance companies also offer programs for professional liability insurance – D&O (Directors and Officers Liability Insurance). However, such insurance is not common in Ukraine so far.
Directors have potential personal liability for a breach of their duties, under the Corporations Act and various other legislation in Australia . Under the Corporations Act, a company may indemnify its directors against liabilities incurred as a director of the company, other in relation to liabilities owed to the company or related bodies corporate, certain civil penalties or compensation orders, or liabilities owed to a third party where the person did not act in good faith.
As an additional protection, it is common for companies to take out directors' liability insurance on behalf of its directors. However, the Corporations Act prohibits a company from insuring its officers against conduct arising out of a willful breach of their duties or a misuse of position or information.