In my trade there is only one reason for trading under a company. Accountants may have other good reasons but they are not likely to be anywhere near as interesting. The point of a company is to avoid the very intense stress to assets and health that comes with a personal exposure to a financial claim. No tradie wants to lie awake at night worrying whether a faulty pipe crimp or an incorrectly installed flashing could lead to the loss of their family home, marriage and the boat. They will still worry of course about whether all aspects of a job have been done correctly, but it’s a manageable worry if personal financial security is safeguarded and the business is structured with a set up that is based on sound and well strategised legal and accounting advice.
Insurance typically only covers accidents/incidents such as fire, theft and floods but it is very rare that it will cover the cost of fixing defects caused by poor workmanship. Defects are a risk that every tradie must be diligent to avoid, correct and manage with appropriate systems and quality assurance checks but also have the backstop of operating under a company to avoid personal liability.
I have been involved in numerous discussions and court disputes with tradies and opposing parties when things have gone wrong and the owner of the building is trying to extract money from whoever they perceive may have funds. From an owners’ perspective, they care very little about who is actually liable and care even less about who can afford to pay for fixing a problem. They care only about having the problem fixed irrespective of the cost, taking the view that someone else is paying for it or going to pay for it. It is typical for threats and assumptions to be made by an owner or a co-defendant which can rattle a tradie’s peace of mind about the protection afforded by their company, but which have no foundation or are so unlikely that that they are not worth fretting over.
Here are some examples:
- If you have a company and an owner threatens to sue you personally then firstly, that that is not as easy as it sounds and secondly, it is unlikely that it will be economical for the owner. Even the wealthiest of owners are reluctant to spend large sums of money in legal fees to go through a protracted legal process, that could take up to 2 years, to prove that a director of a company is personally liable, which is never an easy task. In many cases we act for directors who faced with a large value claim have made the decision its better to liquidate the company than incur the cost of significant legal costs to defend and especially so where an adverse result is expected. Despite threats from the owners to sue them personally that has not materialised. There will always be situations where there will be an exception but the number of cases where that has happened and progressed through to a hearing are few and far between.
- Just because you had some involvement onsite in the project does not mean you will be personally liable. A company director may possibly face some personal exposure if they were on the tools and personally carried out work that was later found to be defective. But, that is often harder to prove than might be assumed. In most cases, an owner will never know who was responsible on a particular day for doing a task that proved to be faulty. Site records, even on large projects, do not typically go into that level of detail. A company director is not obliged to incriminate himself and confess that he was responsible for incorrectly installing a flashing. That is for the owner to prove.
- The bigger the company the more you have to lose. This is in reality not often the case. The larger the company the harder it is for a company director to have personal liability for defective workmanship. That is because they rarely are on the tools and are unlikely to be doing the task that causes the problem. Larger companies who have had the benefit of good advice also own very few assets, if any. They will often have a trading company and an assets holding company. Assets such as company vehicles and expensive equipment are typically owned by the separate assets holding company, which does not trade and has no contractual relationship with the owner, making it insulated from adverse claims from owners. It is also common for the employees to be employed by that holding company. The trading company, which takes on all the risk of contracting, pays a fee for staff, equipment and vehicles from the asset holding company. This is not a structure that necessarily works for smaller business as it does come with more administration.
- A claim that a company director can be personally liable for contractual performance by the company. This is incorrect. A director cannot be personally liable for the performance of contractual duties assumed by the company. A director might however be liable if it is proven that he personally carried out defective building work. The distinction between the company’s obligations and a director’s potential personal liability was recently well explained in the High Court as follows:
 A builder has a personal duty of care to a building owner to meet the standards of a reasonable builder when engaging in building work. That is so whether they are an employee, a director of a company or are self-employed. That duty is different from the contractual obligation of the entity obliged to undertake the building work. An action in contract against the entity promising to perform the building work is concerned with a failure to perform contractual promises. An action in negligence against the individual builder is directed to compensation for the loss caused by the builder’s failure to build with reasonable care. Conceptually they address different issues.
There is no doubt in my mind that a company is the best way to protect yourself from personal liability. It does not stop owners and their lawyers from trying to spook a contractor and make it personal in the hope that it will bring about a resolution in their favour, but as always a cool head and good advice taken when times are good makes it easier to manage the risks of an adverse claim.
Finn is a Partner at Gibson Sheat Lawyers in Wellington. Contact Finn directly, or take a look at our debt recovery product for tradies, RecoverIt www.recoverit.nz