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CLOSE CORPORATION : MEMBER'S LIABILITY

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Let’s take a look at what the duties are of members and when and for what members can be held liable for by a Close Corporation.  There is liability of members towards each other and the liability of members towards the Close Corporation. Also read our article on Association Agreements of Close Corporations and more on Personal Liability of CC members on our sister website - FindanAttorney.co.za

LIAIBILITY OF MEMBERS TOWARDS THE CLOSE CORPORATION

The liability of members towards the Close Corporation in this specific article also includes the duties of members.  It is discussed in this manner because it is more convenient and it follows that if a member does not fulfil his/her duties towards the Close Corporation, the member will be held liable in some way.

The members are the “arms and the legs” of the Close Corporation because the Close Corporation cannot do anything without the members.  Therefore each member is the one that must see to it that the Close Corporation fulfils its obligations and complies with its duties.

THE DUTIES OF MEMBERS TOWARDS THE CLOSE CORPORATION

Every member that works in/for the Close Corporation is an employee in the Close Corporation and a Service Agreement should be in place. Or otherwise put: Service Agreements should be in place for every employee – whether that employee is a member or not.  

The duties of a member towards the Close Corporation is therefore two-fold:  that of employee and that as a member.   The same rules apply as it would to any other employee/employer relationship that normally apply. The employee must fulfil his duties with diligence and put the needs of the employer first.

In his/her capacity as member of the Close Corporation, each member has the duty towards the  Close Corporation to:

(a)     Make a contribution to the Close Corporation – namely whatever he/she is supposed to contribute – albeit money/labour/knowledge/assets/abilities

(b)   Act in good faith towards the Close Corporation at all times

(c)    Put the needs of the Close Corporation first

(d)   Comply with the obligations of the Close Corporation

(e)   Avoid a conflict of interests (to not for example do business in competition with the Close Corporation).

The Association Agreement would or should set out the duties of each member and what each member will be liable for.  Members should fulfil these duties to the best of their abilities.  

LIABILITY OF MEMBERS FOR THE DEBT OF THE CLOSE CORPORATION

The Close Corporation is independent of its members. The members are not liable for the debt of the Close Corporation unless the member(s) has(ve) signed surety for the debt of the Close Corporation.

If the Close Corporation owes R20 million and not one of the members signed surety, the debt remains that of the Close Corporation and the creditors will only be able to act against the Close Corporation.  This is as long as the Close Corporation pays its debt. As soon as it doesn’t pay its debt any longer, the creditor is going to call up the surety and act against the member who signed surety.

If the member(s) has(ve) signed surety for the debt of the Close Corporation, then the creditor can act against the member(s) if the Close Corporation does not pay its debt or in the case where the Close Corporation does not own enough assets to attach to cover the outstanding debt.

The principle behind surety is that if the principal debtor cannot pay its debt, then the surety “stands in” to pay the debt and the creditor can act against the surety.  The creditor must first act against the principal debtor (the Close Corporation in this case) and only if the Close Corporation does not have enough assets to sell or does not pay the debt, then the creditor can act against the surety.  In practise however Summons is issued against the Close Corporation as First Defendant and against the surety(ies) as Second and Third (and so on) Defendants.

Judgment is obtained simultaneously against the Close Corporation and the member(s) (everybody that signed surety).  If no surety was signed then only the Close Corporation will be a Defendant.  Once Judgment was obtained, the creditor must act against the Close Corporation first.  It cannot skip the Close Corporation and start acting against the member(s) as surety first.  Once the creditor has tried to obtain payment from the Close Corporation and cannnot, the creditor can issue a Warrant for Execution to attach the property of the Close Corporation.  If the Close Corporation does not have enough assets to sell to settle the debt, then the creditor can act further against the members, but only one at a time and not all members simultaneously.  If the first member settles the debt, then that is the end of the creditor’s claim.  If the first member does not settle all the debt, then the creditor can act againt the second member that signed surety and so on down the list.  If one member has paid more towards the debt than he/she should have in accordance with his/her membership contribution, then such a member has a claim towards the other members for the portion that he/she overpaid.

LIABILITY OF MEMBERS TOWARDS EACH OTHER

The Association Agreement will determine what each member will be entitled to and what not.  If  a member takes more than he/she is entitled to, the other members will have a claim against such a member to collect that which the member received more than he/she was entitled to.

We often find that two members register a Close Corporation and then one member leaves for whatever reason, usually because relationships have soured.  The members forget or neglect to change the membership and the remaining member continues with business. All actions of the remaining member also binds the second member as long as he/she is a member, whether he/she is actively involved or not.  The member who is not actively involved any longer remains entitled to any profits of the Close Corpororation and is also responsible for the debt and obligations of the Close Corporation.

If the remaining member continued with the Close Corporation and did not pay any profits over to the member who left, then second member can sue the Close Corporation to pay out such profits to him/her.  If the profits that were supposed to be paid out to the second member was used by the remaining member, the member who left will be able to issue summons against the member who remained.

THE ASSOCIATION AGREEMENT SHOULD BE CLEAR ABOUT ISSUES

The best still remains to set all the liabilities, duties and obligations between the Close Corporation and the members and the members towards each other in an Association Agreement, even if that means that the Association Agreement is a very thick document in the end.