Reducing the length of bankruptcy and reforms to combat illegal phoenixing - august 2018
Aug 15 2018
Reducing The Length Of Bankruptcy
Under the current legislation, once a person is declared bankrupt, the person remains bankrupt for a period of three years from the date their Statement of Affairs is filed with the Official Receiver, unless a successful objection to discharge is made. During this period, there are restrictions imposed on a bankrupt which may affect their employment, income or ability to travel overseas.
However, in late 2017, The Bankruptcy Amendment (Enterprise Incentives) Bill was introduced to the Senate which proposes to reduce the term of bankruptcy to one year. While the concept of a reduced bankruptcy period is not a new one (the early discharge regime was scrapped in 2013), the proposed Bill aims to reduce the negative stigma associated with business failure. The Government considers that this will ultimately strike a better balance between encouraging innovative entrepreneurship by the availability of a ‘fresh start’, while still protecting creditors in order to inspire efficiency and economic growth in the Australian economy.
Notably under the proposal, the bankruptcy Trustees’ statutory duties to investigate the bankrupt’s affairs, realise property for the benefit of creditors and impose a continuing obligation on the bankrupt to assist in the administration of their bankruptcy, continue even after discharge. Further, the Trustee will still be able to object to a bankrupt’s automatic discharge from bankruptcy for non-compliance.
Despite the one-year bankruptcy period, the Act will be amended to require a bankruptcy Trustee to assess a bankrupt’s income for two years after they have been discharged, or a longer period in the event the Trustee objects to a bankrupt’s discharge for non-compliance, as the case may be.
In circumstances where the bankrupt is not paying their required income contributions, a Trustee will still have the power to direct a bankrupt to open a supervised account even after the bankrupt has been discharged. This is an account into which a bankrupt must deposit all of his/her income and may only withdraw funds from the account with the Trustee’s permission.
These changes to the income contribution requirements will be a mode of enforcing compliance of a discharged bankrupt, together with alleviating the risk of a bankrupt reducing their income or diverting their income to a third party during the shortened period of bankruptcy. Additionally, the bankrupt will still be required to notify the Trustee of a change to their principal place of residence for a period of three years from the date they filed their Statement of Affairs or the period for which they are or remain liable to make income contribution payments.
However, the reduced bankruptcy period will result in a bankrupt, after discharge, being able to travel overseas without restrictions, not being required to disclose the bankruptcy when applying for credit and being allowed to again manage a corporation i.e. be a director after the oneyear period.
As a result of these proposed changes, the Australian Securities and Investments Commission has expressed its concern stating that ‘risks such as inadequate skills and excessive risk-taking within a company are exacerbated’ by allowing bankrupts to be a sole director of a company after the one-year bankruptcy period.
Accordingly, in order to mitigate this risk, the ASIC has proposed to change the requirements for directors of a corporation, meaning bankrupts would be ineligible to be a sole director of a corporation within a period of three years post-bankruptcy.
The transitional provisions of the proposed Bill will not only affect individuals declared bankrupt after the passing of the Bill, but also undischarged bankrupts, as individuals who have been bankrupt for greater than one year once the Bill commences, will be discharged upon commencement of the Bill.
The proposed Bill will commence six months after receiving Royal Assent to allow Trustees sufficient time to review existings matters, and if necessary, lodge an Objection to Discharge.
Whilst the proposed amendments strive to promote entrepreneurial behaviour, a Trustee in bankruptcy may be placed under increased pressure to complete investigations and possibly take action to recover assets for the creditors in a much shorter period. Further, the shorter period of bankruptcy may ultimately lead to an increase in the number of personal bankruptcies as individuals may attempt to exploit the shorter bankruptcy period.
Reforms To Combat Illegal Phoenixing
Phoenix activity refers to a situation when an entity transfers its failed or insolvent business and assets ordinarily to a related entity at fair value on commercial, arm’s length terms. It is commonly understood that if directors managed a company properly during its lifetime and any transfer was not caused with the intention of defeating creditors, then the transfer of business and assets would be considered “legal” phoenix activity.
Contrarily, it is considered to be ‘illegal’ when the transfer is deliberately designed to avoid paying the company’s creditors. A common situation would be when the directors of a failed company strip it of assets by transferring them to a related entity at no consideration or for less than fair value.
All too often the practice of illegal phoenixing has a detrimental impact on stakeholders, such as customers who may not receive goods or services they have paid for, employees who may be left with outstanding entitlements, suppliers or other businesses who may suffer as a result of unpaid contracts and bills, or government agencies due to unpaid taxes.
Estimated annual costs of phoenix activity are significant:
- The cost to business from unpaid trade creditors is between $1.162 billion and $3.171 billion.
- The cost to employees regarding unpaid entitlements is between $31 million and $298 million.
- The cost to the government from unpaid taxes and compliance costs is around $1.66 billion.
In a bid to combat illegal phoenix activity, the Government has allocated $40 million in the federal budget to be spent over the next four financial years to reform existing corporations and taxation laws and is granting the Australian Taxation Office (“ATO”) additional power.
These budget measures include:
- Introducing new phoenix offences that specifically target those who participate or facilitate illegal phoenixing.
- Preventing directors from backdating director resignation documents (designed to circumvent that director from being personally liable for their responsibilities).
- Preventing directors from resigning or leaving a company with no director to control the company’s affairs (abandoning it for the same objective as above, but also at taxpayers’ expense to have ASIC wind the company up).
- Restricting the ability of related-party creditors from controlling the outcome of external administrations.
- Extending the current director’s penalty regime from just group tax and superannuation, to include GST, luxury car tax, and wine equalisation tax, making directors personally liable for those tax debts.
- Allowing the ATO to retain refunds where there are outstanding lodgements.
A series of other changes also include the introduction of Director Identification Numbers, a black economy and an illegal phoenixing hotline and reform to attempt to stop the misuse and non-payment of the Fair Entitlements Guarantee and Superannuation Guarantee Charge.
To find out more about the information covered in this newsletter or to discuss any issues pertaining to personal or corporate insolvency matters, telephone on 03 8636 3333 or email any of the following contacts:
Stephen Michell - Director smichell@pcipartners.com.au
Philip Newman - Director pnewman@pcipartners.com.au
David Quin - Director dquin@pcipartners.com.au
Sean Pulverman - Principal spulverman@pcipartners.com.au
Warren White - Principal wwhite@pcipartners.com.au
Kylie Wright - Principal kwright@pcipartners.com.au
Sophie Zapantis - Senior Manager szapantis@pcipartners.com.au
Peter Fraczek - Manager pfraczek@pcipartners.com.au
Frank Ntim - Manager fntim@pcipartners.com.au
Anna Odrzywolska - Manager aodrzywolska@pcipartners.com.au
All material contained in this newsletter is written by way of general comment. No material should be accepted as authoritative advice and any reader wishing to act upon the material should first contact our office for properly considered professional advice which will take into account your own specific conditions. No responsibility is accepted for any action taken without advice by readers of the material contained herein.
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