Bankruptcy & the Age Pension – Not all what it seems!

As Bankruptcy Trustees, we are often asked to assist individuals of many and varied ages on personal insolvency options available to them. Individuals generally have differing financial circumstances and the advice provided needs to be considered on a case by case basis.
With Australia’s ageing population, we have received enquiries (and anticipate in the future the potential for an increase) regarding treatment of benefits and payments made under the Social Security Act 1991 (“SSA”) and other social security legislation in the context of the income contribution regime when the individual has to consider voluntary bankruptcy.

We have recently had a professional advisor who was seeking clarification as to whether receipt of a payment under the Pension Bonus Scheme would be able to be retained by their client in bankruptcy or whether it would form part of property available to a Bankruptcy Trustee. Whilst this Scheme is now closed (see below) it does serve as a timely reminder that there are many important considerations to be given when social security legislation is involved and it can be quite tricky – so it is important to get the right professional advice.

  • The Pension Bonus Scheme

In 1998, the Federal Government passed the Social Security and Veterans’ Affairs Legislation Amendment (Pension Bonus Scheme) Act (“PBSA”). The legislation was designed to encourage older Australian who were eligible for the aged pension to remain in the workforce. As a reward for deferring their claim for the aged pension (and meeting various other conditions), they were entitled to a single, tax-free lump-sum pension bonus.

While registration for the Pension Bonus Scheme is now been closed, we were asked to consider whether such payment (if received) under the Pension Bonus Scheme to an individual after bankruptcy would be divisible or after-acquired property, or income when received.

  • Property Divisible among Creditors

Section 58 and Division 3, Subdivision A of the Bankruptcy Act (“the Act”) sets out property of a bankrupt that vests with a Bankruptcy Trustee and divisible among creditors. After-acquired property is taken to include all property that has been acquired by the Bankrupt after the commencement of Bankruptcy and before discharge. Property is given a wide definition under Section 5 of the Act to include personal property of every description.

Prima facie, in a situation where the pension bonus was received prior to bankruptcy and held in a bank account maintained by the bankrupt, it is likely that this sum would be divisible property. If the pension bonus was received after bankruptcy, a Trustee needs to consider the interaction of Division 3A of the Act with the income contribution regime contained in Subdivision 4C.

While Sections 58 and 116 of the Act were broad enough to encompass after-acquired income as property, such income is taken not to vest with the Trustee as it dealt with under the income contribution regime (Re Gillies [1993] FCA 289). Recent case law has clarified and not changed this position (Di Cioccio v Official Trustee in Bankruptcy (as Trustee of the Bankrupt Estate of Di Cioccio) [2015] FCAFC 30).

  • Specific exemptions

Section 11(3C) of the SSA specifically exempts an individual’s entitlement to the pension bonus to be an asset of the person for the purposes of the SSA. The Schedule 1 of the PBSA states that “a pension bonus is absolutely inalienable, whether by way of, or in consequence of, sale, assignment, charge, execution, bankruptcy or otherwise”. Based on this legislation, it would appear that a person’s entitlement and receipt of a pension bonus would not be divisible property under the Act.

  • The meaning of Income

Section 139L(1) of the Act states that income of a bankrupt has its ordinary meaning which is derived from the Income Tax Assessment Act 1997 to encompass income that comes under the ordinary meaning of the word “income”. The Act and Bankruptcy Regulations also vary the definition of income to include and exclude various payments made to a bankrupt. Notably, Bankruptcy Regulation 6.12(1) exempts certain amounts as income if it is classified as not being income under Section 8(8) of the Social Security Act 1991 (with some exceptions). The pension bonus is a payment under Section 92 of the Social Security Act 1991 and when applying Bankruptcy Regulation 6.12(1) does not fall under the category of an exception to the definition of income.Taxation implications

  • Taxation implications

Lump sum pension bonuses paid under SSA are tax-free and therefore no amounts can be deducted under Section 139N(1) of the Act when performing an income assessment.

Conclusion

Accordingly, in this particular situation, if the whole amount of the pension bonus was paid to the individual after the bankruptcy commenced, we believe it would be classified as income for the purposes of the Act.

This case highlights the need for Bankruptcy Trustees to be cognisant of the interaction of the Bankruptcy Act with other legislation and additionally that professional advisors and individuals understand the implications of the legislation on their specific circumstances.

Crowd Source Funding for Retail Investors. Good idea or the potential for them to be the new Ponzi scheme?

The Corporations Amendment (Crowd Source Funding) Bill 2016 is due to come into operation on 29 September 2017. Crowd Source Funding (“CSF”) continues to be a popular way that allows entrepreneurs/start-ups to raise funds from many investors. Until recently CSF in Australia has been aimed at “sophisticated” or “wholesale” investors. The above Bill effectively establishes a regulatory framework to facilitate CSF by small, unlisted public companies aimed at attracting retail investors.
There is no doubt that new funding models such as CSF which enable new ideas to get off the ground and fly and contribute to productivity growth are a good thing. However, I do see the potential for misuse and some comparisons to Ponzi schemes come to mind. What is a Ponzi scheme? Wikipedia describes this type of scheme as one where “the operator generates returns for older investors through revenue paid by new investors, rather than from legitimate business activities or profit of financial trading”. The analogy here is that the concept/assumptions around the business are overstated and/or further capital raisings being based on the potential for the product/service being overplayed.

Retail investors should apply the same scepticism, fundamental analysis and industry research they do to a company listed on a stock exchange before deciding whether to invest via the CSF platform. This also applies to other platforms such as kickstarter and others.

The fact that CSF is (or will be) typically done online and facilitates a large number of individual (or retail) investors to make small (but still important) financial contributions highlights the potential for mis-use. Retail investors need to absolutely accept that investing in start-ups or small businesses present high risks of financial loss. ASIC insolvency statistics confirm that the overwhelming number of corporate insolvencies are micro to small medium enterprises. As a Registered Liquidator, I see this frequently.

Whilst the regulatory framework in this Bill has been designed to balance the barriers for business seeking CSF with an adequate level of protection against risk and fraud for retail investors, only time will tell whether some CSF companies seek to take unfair advantage of this new form of funding. Some of the key requirements for those making a CSF offer are:

  • The offer must be for the issues of securities in the company making the offer [ie. can only be an unlisted public company limited by shares];
  • The company making the offer must be an “eligible CSF” company and its principal place of business must be in Australia;
  • The securities must satisfy the eligibility conditions [ie. a CSF company’s substantial purpose can’t be investing and it must have gross assets and turnover of < $25million respectively];
  • The offer must comply with the “issuer cap”. [ie. CSF companies can only seek to raise $5million in any 12 month period];
  • The company must not intend to use the funds obtained under the offer by it or a related company to invest in securities or interests in other entities or managed investment schemes.

Relevantly the CSF offer generally will not need to be as detailed as a prospectus and other disclosure documents.

All CSF offers will need to be made via the platform of a CSF intermediary and such intermediary will be required to hold an AFSL – thus there are some in-built protections to the retail investor, but dangers still lay in the quality of the offer and the individuals standing behind it.

The maximum cap per retail investor is $10,000 in any 12 month period and there is a 48 hour cooling-off period. Retail investors should ensure they do their due diligence if they may be seeking to invest via such platforms and try to make an objective assessment of the investment risk versus return scenario. And importantly remember, the bigger the return, the bigger the risk.

by Bruce Gleeson

Phoenix Activity – Exposing Fraudulent Directors

Whilst it is difficult to accurately determine the true cost of “phoenix activity” primarily due to a lack of relevant data, it has been estimated to cost the Australian economy in the vicinity of $3.2 billion per annum. (1)

What is phoenix activity? It essentially involves one company taking over the business of another company that is liquidated where the controllers of both companies are the same people or their associates. It is important to profile and understand phoenix activity to really understand how it needs to be deterred. In my opinion it is the illegal or “harmful phoenix activity” which has the most profound impact on the economy. Indeed in the recent case of Plutus Payroll which appears to have involved harmful phoenix activity, it is estimated that the loss to Government Departments (mainly the ATO) could be as high as $165 million.

Harmful phoenix activity left unchecked is not only anti-competitive, but also undermines Australia’s revenue base.

What is required to deter harmful phoenix activity? Whilst the list below is not exhaustive, it seeks to cover certain keys areas:

1. There needs to be an enhanced information system to detect and measure phoenix activity. To this end, there needs to be an overhaul of the current collection/reporting system by Registered Liquidators to ASIC. Better data capture will enable improved statistics/measurement of the true extent of the issue and also enable certain industries/individuals to be focussed on.

2. There also needs to be more effective sharing of information between State and Federal Regulators, as well as enhancing information sharing with allies such as credit reporting agencies and trade bodies.

3. Establish via ASIC a free online search acility that has a register of disqualified directors and associated companies.

4. Perhaps most importantly, the process to incorporate a company and become a director needs to be tightened.
• Presently it is easier to become a director of a company than it is to open a bank account. This has to change.

• Also, the registration of an Australian company only requires the name, address, and date of birth of each proposed officer. ASIC forms do not presently require or ask for prior corporate history of proposed directors and no supporting evidence is required about their identity.

Recent indications from Federal Government are that it may not be too long before a Director Identification Number (“DIN”) is introduced. This should be introduced without delay and require all directors to undergo a 100 point ID check to get a DIN. It should also be an online application. Whilst the DIN is not the complete panacea to counter “harmful phoenix activity”, it is a long overdue step in the right direction when done with points 1-3 above.

Importantly such changes will not mean that directors of a company should fear seeking professional advice as early as possible when they are in financial difficulty. Rather, the above is really focusing on the serious financial impact that “harmful phoenix activity” has on an economy.

(1) based on a 2012 PWC report.


by Bruce Gleeson

Bankruptcy and Family Trusts – Are They Still Effective?

Family Trusts have and will continue to be used into the future for a variety of purposes, in particular asset protection. Most Family Trusts notably have a Corporate Trustee. As a Registered Bankruptcy Trustee, I am quite often asked by individuals who may be a Director/Shareholder of the Corporate Trustee and/or a Beneficiary of the Family Trust (or discretionary trust) what happens if the individual goes into bankruptcy (either voluntary [themselves] or involuntarily [via the Federal Court])?
Ultimately it will significantly depend on the specific circumstances of each case and indeed the Trust Deed, but the Courts have for some time considered and will continue to exercise their minds about the extent to which Family Trusts may be impacted by the bankruptcy of a Director/Shareholder/Appointor or Beneficiary. This article examines a recent case which re-affirms that Family Trusts continue to be problematic for Bankruptcy Trustees to attack.

The case is Fordyce v Ryan & Anor; Fordyce v Quinn & Anor [2016] QSC 307 and judgement was delivered on 20 December 2016. The key facts can be summarised as follows:

• The Bankrupt was the sole Director and Shareholder of the Corporate Trustee company of the Fairdinks Discretionary Trust (“FDT”) and also the Corporate Trustee companies of Unit Trusts.

• FDT held all the units in one of the Unit Trusts and two-thirds of the units in the second Unit Trust. The major asset of both Unit Trusts was real estate.

• The Mortgagee of both Unit Trusts sold the real estate with the consequent effect that there were surplus funds available. The surplus proceeds were in excess of $200,000 in each Unit Trust.

• The Corporate Trustee for both Unit Trusts was deregistered and as such, the above surplus funds vested with ASIC – and ASIC effectively stepped into the shoes of the Corporate Trustee and either may have acted as Trustee or applied to the Court for the appointment of a new Trustee.

• FDT was as the name suggests a discretionary trust and had two (2) classes of beneficiaries. The Bankrupt was in the 2nd class of beneficiaries – being a general beneficiary.

PRIOR to his bankruptcy, the Bankrupt who was CONTROLLING each of the Corporate Trustee companies of the Unit Trusts made distributions to the FDT and then in turn to him as a beneficiary of the Family Trust. The evidence for this was income tax returns of the various trusts.

• On 2 September 2015 the Bankrupt (Mr Michael Quinn) entered into bankruptcy and the Bankruptcy Trustee sought to recover the Bankrupt’s interest in the surplus assets of the Unit Trusts by applying to the Court to appoint Receivers so that the Unit Trusts could be wound up.

• The Bankruptcy Trustee submitted that  the Bankrupt controlled the FDT and relied on the decision of the Federal Court in ASIC v Carey (No 6) (2006) 153 FCR 509 (“Richstar”) to argue that the Bankrupt’s interest amounted to property that had vested under Section 58 of the Bankruptcy Act. The Bankruptcy Trustee was also seeking to have Receivers appointed to the Unit Trusts as part of the application.

• Relevantly the Court determined that the FDT was purely a “discretionary trust” and therefore the beneficiary is not someone who has a property interest in the trust property. In doing so it stated that the “critical question is whether effective control of a Trustee’s power of selection can transform the interest of a beneficiary of a discretionary trust into property of the bankrupt”. In addition, the Court also commented “a trust once validly constituted does not change in nature because the Trustee and some of the beneficiaries subsequently choose no longer to abide by the obligations of the trust relationship”.

• The Court found that the Bankrupt’s right as one of the general beneficiaries of the FDT did not vest in the Bankruptcy Trustee as property of the Bankrupt per Section 58. The Court also dismissed the application insofar as appointment of the Receivers to the Unit Trusts were concerned.

This case shows how difficult it can be for Bankruptcy Trustee’s to successfully attack Family Trusts. Whilst the outcome will invariably come down to the specific facts of each circumstance, Family Trusts at least at this point appear to be the kryptonite equivalent to defeat bankruptcy trustee claims. However, I think it should be expected that this area will continue to be pressed where it is believed there may be a potential recovery for creditors.

Bruce Gleeson

Attitude & Corporate Insolvency Profiles 2016

One of my favourite Winston Churchill’s quotes is so relevant to directors and owners in Micro, Small and Medium Enterprises (“MSME”). That is: “attitude is a little thing that makes a big difference”.
In December 2016, ASIC released its annual overview of corporate insolvencies based on statutory reports lodged by external administrators (i.e. predominantly voluntary administrators and liquidators) for the 2016 financial year (see ASIC website 16-436MR).

Summarised in the table below are some key trends emerging from the collation of the data over the 2014, 2015 and 2016 financial years. Of particular note, is that MSME’s again dominate the corporate insolvency landscape.


Whilst it is acknowledged that this data may be somewhat subjective because it has been filed by the external administrator, the data has been collated over at least six (6) years and hence some of the trends are noteworthy and instructional for owners and advisors.

Typically in my experience as a Registered Liquidator, MSME’s are at a higher risk of failure not only in the early phases, but also at other pivotal periods. MSME’s quite often have a lack of key resources (particularly key people) and this can quite often become a major issue. Coupled with management not always having the “right attitude” the business can quickly be adversely impacted. Equally the opposite is true. It is not to say that management is not working hard, but it comes back to having the right strategy and attitude and executing on it.

MSME’s just like bigger companies must understand their key advantages and play to these, as well as continually re-evaluating and re-adjusting their business strategy as the business evolves. This is critical.

A key factor coming out of the ASIC release is that unpaid taxes account for approximately 65% of liabilities in the $250,000 or less category. This is not as surprising as some might think – but it does reveal a tendency for MSME’s to use the ATO as the lowest priority unsecured creditor. Remember directors can be personally liable for PAYG and SGC debts of companies in certain circumstances.

Relevantly in the 2016 MYEFO the Government announced its intention from 1 July 2017 to inform credit reporting agencies about the tax position of businesses that have not effectively engaged with the ATO where the debt is more than $10,000 and at least 90 days overdue. This aim is to encourage businesses to pay tax debts in a more timely manner. If this intention becomes reality, I expect that it will cause MSME’s difficulties if their tax affairs are not kept in good order.

So as we start 2017, I encourage directors and owners of MSME’s to review their business strategy with the right attitude and if things are not heading in the right direction to seek advice at the earliest possible time from a qualified and registered professional.

Jones Partners offers a complimentary free consultation if you would like to have a confidential discussion about your business.

Directors Vulnerable to Untrustworthy Advisors

As both a Registered Liquidator and Registered Bankruptcy Trustee, I quite often hear about the plight of a family company director or individual who is in financial difficulty being seduced by unlicensed or unregistered supposed professionals (also referred to as pre-insolvency firms) about how best to deal with their difficult financial position, yet only to end in a worse position both financially and emotionally after taking such advice.
Such seduction is akin to bait advertising that occurs both online and in other forms of media. It promotes a sense that everything will be sorted out and that the consequences will be very little. By advertising this way, it is effectively taking advantage of an emotionally vulnerable family company director or individual when what they really need is proper professional guidance.

Recently ASIC has commenced writing to directors of companies that are subject to a Winding Up Application to provide facts about untrustworthy advisors. Such communication is also a broader attempt by ASIC to curb phoenix activity which unchecked becomes a very real form of anti-competitive behaviour acting against those businesses that are genuinely trying to do the right thing.

What are some of the key signs of untrustworthy advisors? These were outlined in ASIC’s recent communication with certain directors and include:

  1. These advisors may contact you “out of the blue” and make promises that can result in bad advice.
  1. These advisors may suggest you transfer assets owned by your company into another company without paying for them.
  1. These advisors may be reluctant to provide their advice in writing.
  1. These advisors may tell you to destroy books and records or withhold or delay providing them to the company’s liquidator, if appointed.

Family company directors who believe their companies may be in financial distress (including having received a Winding Up Application) should contact sooner rather than later, a Registered Liquidator and resist the temptation to take “cold calls” from self-proclaimed specialists whose experience is often limited to being a former director of a company that went into some form of insolvency administration or a former bankrupt. In this regard, ASIC is currently looking at making it easier via their website for directors to find or locate a Registered Liquidator in their local area so they can get competent advice.

Directors ought to be aware that ASIC and the ATO have recently conducted raids across the country in a bid to crack down on “pre-insolvency firms” who have allegedly encouraged phoenix activities, tax avoidance and GST evasion. Typically I see these untrustworthy advisors surface when the ATO or other statutory bodies seek to commence a Winding Up Application against a company to recover monies owed. Upon receipt of the Winding Up Application, directors of the company are “cold called” by these untrustworthy advisors and promised an immediate solution to their problems by having the company placed in voluntary liquidation prior to the Winding Up Application being heard in court.

In my experience, the vast majority of family company directors endeavour to do the right thing however, they are vulnerable to being misguided by untrustworthy advisors who generally receive a considerable fee for what ultimately may be considered as poor advice. I expect that ASIC and the ATO will continue to focus on this area. As a Registered Liquidator with over 20 years experience, I am familiar with the sensitive and pragmatic manner in which financial difficulty needs to be discussed and options explored with directors and shareholders.

My message to family company directors and individuals who find themselves in this position is to not be tempted by these untrustworthy advisors, but rather review reputable sites like www.asic.gov.au and make sure they are speaking to a professional that holds the appropriate registrations as opposed to someone that just wants a “sale”. Importantly creditors are able to change a liquidator introduced via a pre-insolvency firm (as well as more generally). Thus some transactions that are said to be trouble-free are likely to in fact be the subject of a reversal if they are not dealt with properly.

Jones Partners offers an initial free consultation for Family company directors and individuals in financial difficulty so that they can be assured they are receiving the right advice about the options available to them.

Turning ideas of insolvency around

 CA Magazine – Aaron Watson

 

It’s time people understood the value insolvency professionals add to the economy, say industry representatives.

“You weren’t allowed to be bankrupt or insane.”

That’s how Brendon Gibson FCA describes a proposed register of New Zealand insolvency practitioners. A partner at KordaMentha since 2003, with insolvency experienced gained over two decades, Gibson is clear that this was not an appropriate way to regulate an increasingly important sector of the professional economy.

Gibson is the chair of the Restructuring Insolvency and Turnaround Association of New Zealand (RITANZ), which represents around 400 practitioners. The group last year reached agreement with Chartered Accountants ANZ to jointly accredit insolvency professionals and require them to meet training and oversight standards expected from members of a professional body (around 80% of those working in the insolvency space are chartered accountants, Gibson notes).

Since launch last year, 90 Kiwi insolvency practitioners have received accreditation.

“We are very pleased with that.”

But the industry remains largely unregulated in New Zealand.

“Anyone can be a liquidator, they don’t need qualifications, nobody vets them. Since the GFC we have had auditor regulation and increased director regulation, trustees, financial advisers… but the insolvency practitioner has none at all. And they are the ones who control the money, at the end of the day.”

RITANZ hopes to promote an insolvency regime that gives confidence to the investment and lending communities that, if things go wrong, there are experts following well-understood procedures. Nothing is without risk, he says, but New Zealand needs a “stable system, a credible system”.

“We see one of the key parts of a credible system being people involved in the profession who have experience and who understand and operate in an appropriate manner.”

Regulation not a cure-all

In Australia, the profession is regulated but that has encouraged the rise of the “pre-insolvency adviser”, who often is not, says John Winter, chief executive of the Australian Restructuring Insolvency and Turnaround Association (ARITA).

“They say ‘destroy all your books and records and take all the money away from your insolvent enterprise and you won’t be pursued’,” Winter says. “That message has resonated all too strongly in the market.”

“What we advocate is that much greater focus should be placed on that type of behaviour and the directors who are choosing to follow that advice.”

ARITA members sometimes find dodgy dealings as they unravel the financial affairs of collapsed companies, he says.

“One of our great concerns is that despite our members recommending action against over 10,000 [directors] per year very little of that translates as action against directors through the regulator.

“Over recent years, ASIC [the Australian Securities and Investments Commission] has focused on insolvency practitioners more than directors.”

New paths

What Gibson’s and Winter’s organisations share is a desire to educate the business community about the role insolvency practitioners play in promoting healthy businesses – either through restructuring them into profitable entities or recycling the capital captured in them when they can’t return to profitability.

The key word is there in the names – T is for turnaround. RITANZ and ARITA have a strong motivation to see businesses recover from financial difficulty.

“It’s not all about closing businesses down,” Gibson says.

“It is about maintaining businesses and turning them around from a difficult situation. It is about working with businesses to the extent you can to solve their problems – or having some form of insolvency process to ensure optimal value for the creditors and therefore as a going concern, if possible. Is it a receivership and a sales process or can you avoid that sales process? It is about solving problems.”

Winter agrees, adding that in order to turn a struggling business around, insolvency professionals need to be brought in early. Organisations should get advice when they start to find themselves under strain, he says.

“If you can’t pay your bills – as and when they fall due – there is little left to salvage. If , however, you can see bumps on the horizon and you engage professional advice earlier you are more likely to see a turnaround or a restructuring of your organisation that will ensure you return to profitability – if not maintain profitability all the way through.

“Unfortunately people tend to wait until far too late and formal insolvency mechanisms become the only way out. If you are simply hoping that your business is going to turn around it is unlikely to. Relying on luck, as a business strategy, is doomed to fail.”

Gibson acknowledges that no one likes someone else coming into their business and saying “it’s not working well, you need to change”.

“Technological change, market change, the dollar can go against them – all of those sort of things can lead to a business having financial difficulty,” Gibson says.

“From my experience, the earlier people come and say, ‘look, we have a problem’, the more options you have.

“A lot of the work that our members do is not public. A lot of work is done outside formal insolvency. But work is done inside formal insolvency and when that happens it is very public.”

Assisting business

In Australia, Prime Minister Malcolm Turnbull has championed three changes to insolvency and bankruptcy regulations aimed at stimulating more innovation in the economy (see an extended interview with Turnbull in the June issue of Acuity).

The first is a “safe harbour” provision that would protect directors from personal liability for insolvent trading if they appoint a restructuring adviser. The second is reducing the default bankruptcy period from three years to one year. The third is making ipso facto clauses, which allow contracts to be terminated solely due to insolvency, unenforceable.

Two of these are no-brainers, says Winter.

“The reforms to safe harbour and ipso facto laws are two of our [ARITA’s] key policies. Getting those policies up and running before we see another downturn in the economy is critical.”

Those changes will provide useful tools to help forestall a recession, Winter says, and help turnaround practitioners provide remedial assistance to businesses far earlier.

“There is no doubt there is a deep-seated aversion to risk taking in the Australian director landscape. A part of this culture is a tendency to push struggling businesses into a formal insolvency framework earlier than might be necessary,” Winter says.

“For us, the message around the transition to having a restructuring moratorium – because that’s what it really is – and how that is received by directors is the most important part of the law reform. If directors don’t embrace it fully, it will peter out.”

Bankruptcy reform is more contentious in Australia. Winter says there are mixed views across the profession.

“It is deeply inconsistent that we have a very laissez faire approach to business failure, particularly at the small end. You can close a business down and restart a similar business with little or no inhibitions,” Winter notes.

“Whereas if you are inadvertently caught up in a bankruptcy – your employer goes broke and you end up with debts – you can face a long time in the purgatory of bankruptcy.

“Nonetheless, a lot of our members deal with the worst [bankruptcy] cases – those who are trying to game the system or hide assets etc – so among professional insolvency practitioners there are those who say they need as many punitive measures as possible because they see such errant behaviour.”

Gibson says that safe harbour provisions for directors and a repeal of ipso facto regulations might also benefit New Zealand.

“There are questions about director liability in what’s known as the ‘twilight zone’ when a company is in financial difficulty and there are options to trade out. Directors are sitting there wondering if they are creating risk in terms of reckless trading and personal liability.

“Ipso facto clauses… Solid Energy went into voluntary administration and Genesis decided to use one of those clauses to get out of a supply contract. If we had ipso facto clauses where that can’t happen, that would have helped the voluntary administration process. Some debate needs to go on there but it is a very relevant debate.”

“But firstly, we [RITANZ] think there are fundamental issues in the way the industry works at the moment that we would like sorted through some form of regulation.”

Member perspective – Bruce Gleeson FCA
Jones Partners Insolvency and Business Recovery

Insolvency work requires adaptability and good project management skills, Gleeson says.

“Quite quickly we have to get across the specifics of an industry, or niche part of an industry, and at the same time get across regulation.”

This is challenging but also what makes the work enjoyable, he says.

There is also a sense of achievement in finding a solution for all stakeholders. He cites working with Wincrest Homes as an example of making a difference.

“The company was involved in the construction of residential homes across NSW. There was a slump in the number of building starts and the business had expanded into Victoria somewhat unsuccessfully. We were able to put into place a proposal that enabled those homes to be completed.”

It can also be rewarding to help people through personal insolvency.

“The ones that stand out are where the individual has come to us burdened with a lot of credit card debt and personal loans they have incurred, perhaps as a result of illness or some other type of breakdown.

“The bankruptcy enables them to get back on their feet. You can see a person who came to you as down and out, and couldn’t see a way through, change to somebody who gets back to a healthy state of mind and makes a useful contribution to society.

“They are the ones for me that are most pleasing.”

Is a Bankrupt’s money his/her own?

is-a-bankrupt-s-money-his-her-own
A question that is frequently asked by an individual that may be contemplating bankruptcy is what happens to the income they earn during bankruptcy. In short, the Bankruptcy Act 1966 (“the Act”) provides that the individual is assessed regarding the requirement to pay compulsory income contributions for each year of their bankruptcy. Given that the general term of bankruptcy presently is three (3) years, then typically the individual would be assessed for each year. Other discussions then flow from this question, in particular what are they able to do with monies after payment of any compulsory income contributions?

A bankrupt may be assessed by their bankruptcy trustee as being liable to make income contributions to his/her estate based on a formula in accordance with the provisions of the Act. To summarise, the level of income contributions is half (or 50%) of the difference between after-tax income and the bankrupt’s assessed threshold. The balance (being the remaining 50%) of after-acquired income is retained by the bankrupt.

What has not been clear is the scopeof after-acquired property (ie property acquired by the bankrupt after bankruptcy and before discharge) which vests in a trustee pursuant to Sections 58(1) and 116(1) of the Act. And does it include assets acquired by the bankrupt with afteracquired or exempt income?

For example, if a bankrupt acquired shares in a company (listed or private) with afteracquired income, do the shares vest in the Trustee, (ie do they become after-acquired property)?

The conflicting cases

A simple example such as this has been the subject of uncertainty until recently. In Rodway v White [2009] WASC 201 it was held that the shares were after-acquired property and thus vested in the trustee. This was the belief of practitioners, especially as other authorities were of the same view.

However, in the recent case of De Santis v Aravanis [2014] FCA 1234 it was held that any property acquired by a bankrupt with after-acquired income does not vest in the bankruptcy trustee. So the shares do not vest in the Trustee.

Who is right? Current law

In the more recent Federal Court of Appeal case of Di Cioccio v Official Trustee in Bankruptcy [2015] FCAFF 30 (Di Cioccio) it was held that the shares and other property do vest in the Trustee. Mind you, this ‘complex’ matter was decided on appeal.

So, we are now back to square one and trustees/creditors can smile and bankrupts are left scratching their heads. Why do I say this?

Is it fair?

Bankrupts reasonably argue that if it is exempt income then why can’t they deal with it as they please. Isn’t rehabilitation one of the main purposes of bankruptcy? We all makemistakes and bankrupts should be given an opportunity to get on with their lives and plan for the future by being allowed to save exempt income. Double dipping is not fair.

Unfortunately, Di Cioccio is the ‘current’ law and possibly the basis of needed law reform.

What about savings?

So can a bankrupt just save his/her income or spend on expenses but not on assets? As to spending, it is bizarre in that bankrupts can spend as much as they like on the high life as long as they don’t buy assets or possibly save too much.

In Re Gillies; Ex Parte Official Trustee in Bankruptcy v Gillies (1993) 42 FCR 571 it was held that accumulated non-contributable income/savings did not become afteracquired property.

However, in the recent decision of Di Cioccio it “appears” that the Federal Appeal Court held that such savings did vest in the trustee, subject to section 134(1)(ma) of the Act. This section of the Act indicates that a trustee may allow withdrawals which he/she thinks are just. The trustee is to act sensibly and fairly in this regard.

I say “appears” because Bankruptcy Trustees, Regulators and lawyers are currently examining this decision and its consequences. If ‘surplus’ savings do vest in a trustee, is this fair? I don’t believe so.

Conclusion

Di Cioccio is authority for Bankruptcy Trustees being entitled to assets acquired with exempt income. It may also be authority that ‘surplus’ savings are also vested in the trustee.

It would seem that further legislative guidance ought to be strongly considered because the uncertainty at the moment does not provide the clarity that stakeholders, principally the individual and creditors are looking for. Needless to say it is a complex area and individuals should ensure they get the right advice about what it means for them.

Low interest rates & mortgage stress – cycles are cycles

low-interest-rates-and-mortgage-stress-cycles-are-cycles
In August 2016, the Reserve Bank of Australia (“RBA”) cut the cash rate by a quarter of a percent to 1.5%. Last year also saw dramatic growth in median real estate prices particularly in Sydney city and metropolitan suburbs. The growth in the property market can be attributed to a number of factors including the rise in first-home buyers, an influx in local and foreign investors, demand/supply imbalances, and importantly, low interest rates maintained by the Federal Government.

Unfortunately, with housing affordability becoming increasingly more difficult across Sydney, particularly on first-home buyers, the risks involved of households overextending themselves to acquire property also rise.

In July 1996, the cash rate set by the RBA was 7.5%. The recent rate cut means that interest rates are not even one third (1/3) of what they were twenty (20) years ago. However, loans for first home buyers have more than tripled since 1996 while average weekly wages have only doubled during that time.

Mortgage stress is commonly a situation where households spend more than 30% of their pre-tax income on servicing their mortgage repayments. Take for instance a household couple with a combined income of $150,000 before tax servicing a home loan of $500,000. 30% of their before tax income would be $3,750 per month. Principal and interest mortgage repayments on the home loan at a standard variable interest rate of 5.5% would be approximately $3,000 per month or $36,000 annually. That’s about 24% of their pre-tax income going to pay their mortgage repayments.

Consider now the implications of one couple being unable to work due to illness or job loss. Their income may suddenly decrease to say $85,000 per year. 30% of their income now becomes $25,500 or $2,125 before tax. As Bankruptcy Trustees, we see unemployment and under-employment as one of the most common reasons for financial distress and personal insolvency in Australia.

Interest rates also play a factor in mortgage stress. Over the past four (4) years, the average home loan rate was around 7.3% compared to the current rate of around 5.4%. Households therefore also need to consider the long term serviceability of home loans as they may sometimes take up to 30 years to pay off. Households also need to consider that just taking “interest only” loans does not pay the principal debt off!

Another point to consider is that mortgage stress may be different for each household and the ‘30% rule’ may not be appropriate in all circumstances. For example, a couple with children may need to dedicate a greater portion of their income to childcare and education expenses and therefore may have more difficulty in servicing their mortgage from their income.

It is important to consider your individual financial circumstances and be realistic about what you can afford to borrow and repay. Seeking the advice of a professional (who has no vested interest) would be prudent in determining this aspect but also how changes in interest rates during the term of the loan (and in your life generally) will impact on your repayments.

If you are experiencing short term financial difficulty, you may be able to apply to the bank for financial hardship. If the problem is more long term, obtaining debt help or advice from a financial counsellor or Bankruptcy Trustee may be an option. At Jones Partners, we have four (4) registered Bankruptcy Trustees equipped with years of experience to discuss your financial situation and advice regarding your options. If mortgage stress is affecting you, please do not hesitate to contact Jones Partners.

Trading Places – Does It Really Work When a Company is Insolvent?

trading-places–does-it-really-work-when-a-company-is-insolvent

A talking point that I find is often raised by a director when their company is in financial difficulty and liquidation may be imminent is whether they should change directors. Let me be clear in explaining that the reason the current director is contemplating putting in their spouse or finding someone else as a director (both of whom may know very little about the business or importantly the financial position of the company) is about self preservation.Whilst it is not an unreasonable question to be posed, it is one that I find typically carries with it a lot of mis-information around the supposed benefits. Indeed, the 80’s movie (if you’re that old!!) called “Trading Places” springs to mind when I hear this talking point.
The reasons for the current director seeking such change in my experience are generally centred on the following concerns:

  1. It will make it less difficult for them to get finance in the future;
  1. They won’t be personally liable for ATO debts such as PAYG [Pay-As-You-Go] & SGC [Superannuation Guarantee Charge];
  1. They won’t be personally liable for insolvent trading; and
  1. The placement of the company into liquidation won’t count as a “strike” against them for the purposes of a Section 206F director banning order.

If only it was that easy! The balance of this article will debunk ALL of the above commonly held views. Also relevant is that some directors believe that by backdating the effective date of the replacement that this will further enhance their position. Regrettably this also very rarely is the case. So let’s get into some debunking.

  1. It will make obtaining finance less difficult for me in the future

The bottom line is that most finance applications have declarations/acknowledgement along the lines of “have you or the other co applicant, ever been a shareholder or an officer of any company of which a manager, receiver, and/or liquidator has been appointed”.

We can see that there is no timeframe around the above question and thus even if they had resigned as a director shortly before the company was placed into liquidation (for example) the individual would still have to answer YES. I note many credit providers conduct a variety of checks and a simple ASIC director name search will show such details. So in this sense there appears little utility in considering such a change, particularly in an environment where Banks and Financial Institutions continue to more heavily scrutinise applications for business and investment property loans.

  1. I won’t be personally liable for ATO debts such as PAYG & SGC incurred by the company

Again this is unlikely to be the case and depending on the specifics of the matter, it could result in both individuals being liable. The ATO’s ability to seek recovery against a director and his/her assets for PAYG and SGC was further enhanced in 2012 where now if these taxes remain unreported and unpaid for more than three (3) months after the due date, the director at that time and successive directors who have been appointed for more than thirty (30) days will be automatically personally liable. Such liability occurs under what is known as the “lockdown provisions”. There are other ways in which the ATO can also seek recovery of these taxes which may potentially enable them to be quarantined in an administration or liquidation scenario, however this is on the basis that pre-emptive action is taken by the company’s director/s at that time. So in short this wouldn’t seem to provide an overly successful outcome either. The area of the ATO and director penalty notices continues to be a complex area and one where specialist advice is required – don’t simply rely on the internet.

  1. I won’t be personally liable for insolvent trading as a former director

Section 588G of the Corporations Act is framed in terms of who the directors were at the time that the company incurred a debt AND whether as a result of incurring such debt the company became insolvent or was already insolvent. As such, even if any individual has subsequently removed themselves as a director, if a liquidator forms the view that the company was insolvent at the time a debt was incurred during their tenure as a director then they are still on the hook. So such belief that this possible liability will always be avoided is also incorrect and misguided.

  1. Director banning – Section 206F of the Corporations Act

This Section states:

“ASIC may disqualify a person from managing corporations for up to 5 years if:

  • Within 7 years immediately before ASIC gives a notice under paragraph (b)(i):

(i) the person has been an officer of 2 or more corporations; and

(ii) while the person was an officer; or within 12 months after the person ceased to be an officer of those corporations, each of the corporations was wound up and a liquidator lodged a report under subsection 533 (1) … about the corporation’s inability to pay its debts…… 

  • ASIC is satisfied that the disqualification is justified”.

So even under this scenario unless you had resigned MORE THAN twelve (12) months before the date of liquidation, each such instance will still be counted as a strike.

So as you can see, this area is a little more complex than what some people / advisors may lead directors to believe. At the end of the day, the personal risk to directors can be legitimately mitigated if certain actions are taken at critical times. However, clearly the sooner such action is taken, the better for all stakeholders involved.

Directors quite naturally are going to be curious about what measures can be taken to preserve their position – but it is important they get access to the right advice. I am happy to discuss this area with you if you think they may be heading into some strong headwinds (or have clients in this position) or generally if you would like more information.

 

By Bruce Gleeson