Credit Agreements and Directors Guarantees - Tasmanian Collection Service

THE IMPORTANCE OF CREDIT AGREEMENTS AND DIRECTORS’ GUARANTEES

Credit applications

Consumers often pay for goods or services at the time that they are performed or handed over. Sometimes, however, you might agree that the consumer can pay for the goods or services at a later date. If you are losing control of your goods before you have been paid for them, credit terms are a useful way to ensure you get paid by the customer. In these circumstances, it is beneficial for you to have a credit agreement in place.

What is a credit agreement?

A credit agreement is a document which outlines the terms on which you are agreeing to provide goods or services without immediate payment.

Credit agreements are an important starting point for your commercial relationship. They provide clarity about what you are agreeing on from the start and minimise the potential for a dispute to arise about what the terms of your agreement are. For example, the agreement might specify an interest rate, or a date on which payments must be made.

One way to prevent disagreements is to include a clause which specifies who is responsible for collection expenses. Depending on how the clause is drafted, this could mean that the debtor is responsible for paying Tasmanian Collection Service’s (TCS) commission if the debt is referred to TCS – not you. Your ability to recover the costs of collection services is subject to the debtor’s ability to pay the money they owe. If you want to include a clause about collection expenses, you should seek advice about how to properly draft the clause to ensure that it is enforceable.

You should also include a clause in your credit agreement which says that a credit provider is allowed to obtain credit worthiness information or to lodge a default.

Each credit agreement is unique. It is important that you get independent legal and financial advice when drafting and entering into a credit agreement.

If you are dealing with a corporate customer, a credit agreement can include a directors’ guarantee. These are discussed in further detail below.

Directors’ guarantees

Although companies are controlled by people, the company is a separate legal entity from the people that control it. This separation is called the ‘corporate veil’. Without imposing personal liability on the people behind the company, the veil protects shareholders and directors from personal responsibility for any company debts. Take this example:

Company X buys apples from Company Y.
Company X does not pay for the apples.
Company X itself (not its directors) owes Company Y the money for the apples.

What is a directors’ guarantee?

A directors’ guarantee is essentially a document signed by the director(s) of a company which guarantees that they will be personally liable for the debts of the company, if the company itself does not pay. The directors’ guarantee might make the director(s) jointly and severally liable, depending on the terms of the agreement. If jointly and severally liable, and if one director cannot pay, then the other directors may be responsible for the whole debt.

Directors’ guarantees help to protect you because they give you an alternative party to pursue if the company does not pay its debts.

Such contracts are easy to arrange. The only requirement is that the director(s) must be willing to place themselves in that position. It is also essential to ensure that the director(s) understand that the document is a director’s guarantee, and understand the effect of signing that document.

Using the Company X example above, if there is a directors’ guarantee in place, Company Y can pursue the director(s) of Company X for the debt personally.

If the director(s) cannot pay the debt, then personal assets such as their home or car might be seized. Because of the impact that this would have on their personal life, they are more likely to ensure the debt is repaid.

If you have not updated your credit terms in some time, it is possible that the enactment of the Personal Property Securities Act 2009 (Cth) (PPSA) may have come into effect since your last review. The way that interests are secured under the PPSA is technical and we recommend you get tailored legal advice for your situation. This is particularly important if you want your directors’ guarantee to include a charging clause over a caveatable interest.

For more information please contact us at TCS on 03 6213-5555 or [email protected]