Personal Insolvency, Bankruptcy and Debt Agreements – Are You Getting the Right Advice? The Statistics.

As a Registered Trustee in Bankruptcy, I am always intrigued by debtors (or individuals in financial difficulty) who enter into a Debt Agreement under Part IX of the Bankruptcy Act in circumstances where they are likely to be better off financially and non-financially by entering into Voluntary Bankruptcy. In making such statement, I emphasise and realise the importance that each debtor’s circumstances should be viewed on a case by case basis. Equally I continue to be puzzled by those that operate in an unregulated and unlicensed space and continually advise debtors on all manner of options available to them, including Personal Insolvency options for which they are simply unqualified to talk about and end up confusing the debtor.
In analysing some recent statistics released by the Government Regulator, AFSA there are some key observations that can be made about the current state of play. But first, lets dispel some important “urban myths” that I find people have been told or misunderstand:

Myth 1: Bankruptcy affects my ability to obtain further credit whereas a Debt Agreement does not.

This is incorrect.

BOTH Bankruptcy and Debt Agreements will potentially impact the ability of the debtor to obtain further / future credit.  This is largely because such appointment will be recorded on the NPII [National Personal Insolvency Index] which is a searchable register. Further, the details may also appear on a credit reporting agency’s records for up to 5 years, or longer in some circumstances.

What is important when dealing with this question is to also look at the context of how much of an issue it will be in either type of Personal Insolvency administration. Sure if the debtor is seeking to borrow almost days after having finished their Bankruptcy (ie automatically discharged) or Debt Agreement, they are the sole borrower, they are requiring a 90% LVR and can only just demonstrate servicing capacity, then YES expect there to be a significant issue with this. However the more time between the finalisation of Personal Insolvency Administration and the finance request when considered with other factors, then it may be something that can be achieved. It will also be dependant on the state of the “non-conforming lending market at the time”.

Myth 2: I am released from my obligations as soon as I enter a Debt Agreement, but I am not in a Bankruptcy.

This is incorrect.

Under BOTH Bankruptcy and Debt Agreements, the debtor is only released from most unsecured debts (ie credit cards, personal loans etc) when they are either automatically discharged from bankruptcy or alternatively the debtor has complied with all their obligations and payments under a Debt Agreement.

Myth 3: It is better for the debtor financially (if they meet the criteria for a Debt Agreement) to enter into same, rather than consider Voluntary Bankruptcy.

This is incorrect.

See the attached link for what is commonly referred to as “indexed amounts” https://www.afsa.gov.au/resources/indexed-amounts . Relevantly, for a debtor to be eligible for a Debt Agreement they must have unsecured debts below approximately $106,560 and after-tax income of $79,920 per annum. For a debtor with no dependants they will not have to pay any compulsory income contributions if their after-tax income is below $53,280 per annum.

Let’s consider an individual that’s accumulated credit card debt [say 5 cards @ $21,000] totalling $105,000 and has after-tax income of $53,000 [which equates to approximately $66,000 per annum and excludes compulsory superannuation]. Let’s also assume that they are renting something for $450 per week, spend a further $400 per week on food / utilities / insurance / motor vehicle costs and finally $150 per week on entertainment. That leaves just a little over $2,000 as a buffer and excludes any provision for even a modest holiday. We also assume that have no material assets, ie investments in shares, property etc.

I have seen examples where debtor’s given the above facts are entering into Debt Agreements and paying almost $10,000 per annum. In the alternate, a Voluntary Bankruptcy in the above scenario would see no amounts required to be compulsorily contributed by the debtor. There is however the opportunity for the debtor to consider making an offer to annul their bankruptcy pursuant to Section 73 of the Bankruptcy Act if they find their circumstances change and there is a benefit to all stakeholders (ie the debtor and creditors) of doing so as it will provide a better return to creditors than in a bankruptcy.

It is critical that debtors GET THE RIGHT ADVICE before making a decision about their financial position. Yes this even includes considering the merits (if applicable) of informal arrangements outside of the Bankruptcy Act. Regrettably, with so much information available to us via the internet, debtors seem to think that they can make a decision based on such information alone. This might be true when we are talking about price comparisons etc and we know the product we are after. However for most debtors it is their 1st touch point in facing personal insolvency. Therefore getting the right advice involves also talking / meeting with a professional that can help assist in properly and carefully evaluating Personal Insolvency Options.

Some Key Observations from the Statistics [expressed Nationally]:

  • Total personal insolvencies [29,509] fell 4.3% in 2013-14 compared to 2012-13. Total bankruptcies [18,592] fell almost 11% in the same period. Personal Insolvency Agreements (or Part X’s / PIA’s) represented for under 1% of personal insolvencies during the period. PIA’s continue their overall decline in popularity since the peaks achieved in previous decades.
  • For more complex bankruptcies (ie where compulsory income contributions are required to be paid) during the same period the level of contributions collected fell slightly by approximately 1.2% [to $48.24million] which does not appear unreasonable given the reduction in bankruptcies.
  • Most recently bankruptcies fell 11.6% percent in the September quarter 2014 compared to the September quarter 2013. Absent of some significant external economic shock, we expect that number of bankruptcies to continue to decrease over the remainder of the 2014-15 financial year and settle at between 17,000 to 17,250 at financial year end.
  • Debt agreements can take years until they are fully complied with and completed. As at 30 June 2014, approximately 42% of debt agreements lodged in 2009-10 remained non-completed. Given that most Voluntary Bankruptcies only run for 3 years, this is an aspect that the debtor needs to consider when evaluating options available to them.

A Final Word

Personal Insolvency or Bankruptcy are not dirty words and a lot of people often talk about the “stigma” attached with Bankruptcy in particular. We find that when properly and carefully explained, most debtors understand the stigma may not be anywhere near as significant as they envisaged. This is important because it enables an informed decision to be made by the debtor after carefully weighing up the options available to them.

Whilst bankruptcy numbers have been falling (note Debt Agreements have been increasing), we should remember we have record low interest rates, unemployment levels have been relatively stable and property prices in many postcodes have increased significantly. This all bodes well for the household financial position and has enabled it in many cases to be re-positioned. But cycles do turn and households would do well to regularly review their Net Asset position, with particular reference to reliance on credit card debt and personal loans.

If you find you do get caught out, get the right advice early and speak to myself or one of the other Registered Trustees at Jones Partners.

SME insolvencies continue to dominate corporate liquidation statistics

A report released by ASIC in September 2014 [Report 412 – Insolvency Statistics: July 2013 to June 2014] further reinforces the research and commentary provided in the recent Jones Partners Insolvency Report that the “predominance of SME related insolvencies is longstanding and structural in nature”. A copy of report 412 can be obtained via the following link https://www.asic.gov.au/asic/ASIC.NSF/byHeadline/Reports . When reviewing the recent ASIC report, some key trends continue to dominate and have relevance in considering the current insolvency law settings (and whether they are adequate), as well as in discussing insolvency options with SME clients.

  •  For 2013/14, based on liquidator’s reports filed with ASIC, 81% of corporate liquidations involved companies employing less than 20 employees. This is materially the same as the statistics for 2011/12 and 2012/13 and adds support to the long term trend that reveals that SME’s or family owned businesses comprise the bulk of externally administered companies.
  • Additionally, for 2013/14, the construction and business/professional services industries comprise 23% and 26% respectively of all corporate liquidations – or 50% in combination. This is similar to the statistics for 2011/12 and 2012/13. Certainly in terms of the construction industry it supports a long term trend that this industry accounts for a significant portion of corporate liquidations.
  • Further, for 2013/14, 43% of all corporate liquidations involved companies with estimated liabilities of $250,000 or less. Such statistic has not changed materially over the past few years. Similarly for the 2013/14 year,  65% of corporate liquidations had an estimated deficiency of $500,000 or less.
  • Approximately 81% of liquidator’s reports filed for the 2013/14 revealed that there are unpaid taxes and charges of $250,000 or less.
  • In 97% of corporate liquidations for 2013/14 the dividend payable was less than 11 cents in the dollar. This is materially in trend with previous years.

So What Does All This Mean?

  1. Over the past 5 years, externally administered companies have been around 10,000 per year. Given the long term trend approximately 80% represent failures of SME or family owned businesses. From SME failure we know that larger numbers of people become unemployed than is the case from larger / high profile insolvencies that tend to dominate the media, ie most recently the external administration of Fund Manager, Van Eyk.
  2. The deficiency for 65% of failures involves an amount of $500,000 or less. Again this supports the above long term trend that it is SME’s that end up running out of cash.
  3. Poor strategic management was identified as a key factor in approximately 42% of corporate liquidations. Typically this should not surprise us because SME’s tend to be under resourced in key management areas / skills. Whilst there are a multitude of external options for SME owners to get additional access to such skills, incorrect priorities and also an unwillingness to properly budget and invest in these key areas continues to be a typical feature.
  4. The Tax Man continues to be batting way down the order when it comes to the SME owner!! Whilst this may not be overly surprising, SME directors need to be cognisant that under the ATO DPN regime [specifically the lockdown provisions] they can become automatically personally liable for a company’s PAYG and SGC debts if they remain unpaid and unreported for more than 3 months after the due date. Such changes were introduced in July 2012 and I continue to be surprised at how many directors still are unaware of such changes.
  5. For smaller trade creditors of SME’s the message is clear.Manage the terms of trade actively because the rate of dividend in a liquidation scenario will still leave a significant shortfall. Don’t get caught in the domino effect that can sometimes happen when companies enter into external administration. A good example of the domino effect was seen when Beechwood Homes went into external administration some years ago and many subcontractors and trade creditors were adversely financially impacted forcing some into liquidation themselves.
  6. There is no substitute for SME owners getting proper advice as soon as the hint of financial difficulty arises. This doesn’t mean searching around for answers / service providers solely based on the internet either!! Each SME business will have different issues and as a result the implications need to be carefully discussed and considered. This should not and cannot be readily done in my view via the internet. My Firm has a free initial consultation so that SME owners can make an informed decision about how best to deal with their financial position. Jones Partners Insolvency & Business Recovery specialises in SME insolvency and personal insolvency. We have done this for over 30 years and it continues to be a core focus.

Corporate external administration numbers for the current financial year are likely to follow (absent of some unforeseen external shock to the economy) a similar trend to that for 2013/14, ie down a few percent on the previous FY. I think beyond that we will most likely see insolvency levels (both corporate and personal begin to climb) as certain economic factors start to impact on SME profitability and the household balance sheet. Remaining ever vigilant to changes / opportunities within the industry in which you operate and carrying appropriate levels of debt for your business remain key aspects even though there seems to be a view that there is a bit more free cash in the economy at present.

Professional Scepticism and Insolvency? More is needed for better outcomes for creditors.

Professional scepticism is typically raised by ASIC and bodies in the context of auditors. In short, it is used in the context that auditors should “challenge” key assumptions or seek out further evidence, rather than over relying on explanations from management. Indeed it was raised recently by ASIC in its latest findings from inspections of audit firms.
I would argue that the same concept holds for Insolvency Practitioners, be it in either corporate or personal insolvencies. Whether the cause of the financial position or the transaction(s) be deliberate, reckless or more along the lines of an error of judgement, it is important for the Insolvency Practitioner to sufficiently test the claims of management / the individual so that stakeholders have confidence in the formal insolvency process, be it liquidation or bankruptcy. Of course this can come at a cost [depending on the level of testing that may need to be undertaken], but this is quite often a by-product of getting a recovery for creditors.

Certainly when advising management and individuals in financial difficulty, I think it is important to talk to them about this aspect upfront – as it is quite often better able to be dealt with when the “cards are on the table”! Otherwise you are likely to embark on a significant reconstruction exercise because there has been a deliberate attempt to avoid or circumvent what the documents actually reveal. Given the level of investigative powers available to Insolvency Practitioners, any undisclosed issues will invariably surface during the course of the insolvency process. The “cards on the table” discussion generally enables issues to be more readily resolved [but not always], and generally within a shorter timeframe and less of a cost to creditors – thus a better outcome for them, particularly where the recovery is material.

Unfortunately with the voluminous amount of information on the net, the mate at the pub (that seems to be more persuasive than someone that actually knows what they are talking about!!) or those that operate and advice these people in a completely unregulated manner, the outcome quite typically ends up a car crash. There is misunderstanding of what might have been said or indeed promised!! As such when professional scepticism is applied, all the problems generally surface.

Like many Insolvency Practitioners, there are no shortage of “war” stories to tell here – that is not the purpose of this blog.

In these days when many things are becoming commoditised and indeed there is more and more focus on the costs charged by professionals for their services, it is important to understand that whether it is in the audit or insolvency context, that if professional scepticism is appropriately applied, it will come at a cost. Yes it is important for the auditor / insolvency practitioner to get the balance right on a case by case basis, but it is paramount so management / the individual are held to account where needed.

Having the right Firm culture, expertise, supervision and accountability all go to the concept of professional scepticism. With the pace of technology, the rise of social media platforms and the way information is captured, Insolvency Practitioners importantly need to continue to be adaptive to utilising such sources of information to challenge where appropriate representations of management and / or the individual.

If you have a view on this, please let me know what you think.