New Insolvency Laws – Small Business

24th September 2020 – Press Release – Australian Treasurer  – The Hon. Josh Frydenberg

The Morrison Government will undertake the most significant reforms to Australia’s insolvency framework in 30 years as part of our economic recovery plan to keep businesses in business and Australians in jobs.

The reforms, which draw on key features from Chapter 11 of the Bankruptcy Code in the United States, will help more small businesses restructure and survive the economic impact of COVID-19.

As the economy continues to recover, it will be critical that distressed businesses have the necessary flexibility to either restructure or to wind down their operations in an orderly manner.

Key elements of the reforms include:

  • The introduction of a new debt restructuring process for incorporated businesses with liabilities under $1 million, drawing on some key features of the Chapter 11 bankruptcy model in the United States.
  • Moving from what some observers view as “creditor in possession” model to a more flexible “debtor in possession” model which will allow eligible small businesses to restructure their existing debts while remaining in control of their business.
  • A rapid 20 business day period for the development of a restructuring plan by a small business restructuring practitioner (“SBRP”), followed by 15 business days for creditors to vote on the plan.
  • A new, simplified liquidation pathway for small businesses to allow faster and lower cost liquidation (if they meet eligibility criteria).
  • Complementary measures to ensure the insolvency sector can respond effectively both in the short and long term to increased demand and to meet the needs of small business.

It is estimated that these  reforms may cover around 76 per cent of businesses subject to insolvencies today, 98 per cent of whom who have less than 20 employees.

These measures will reposition our insolvency system and potentially help more small businesses survive by:

  • Reducing access costs for small businesses; and
  • Reducing the time businesses spend during insolvency processes to ensure greater economic dynamism.

These measures will commence on 1 January 2021, subject to the passing of legislation.

A new debt restructuring process

  • Many small businesses will have significantly increased their level of debt in order to remain in business during the Coronavirus outbreak. To support small businesses facing financial distress to recover, it will be important that they can access a simple and faster means to restructure their debt. This will allow more businesses to go on trading, meaning better outcomes for the businesses, their creditors and their employees.
  • Whilst voluntary administration in Australia provides an option for all companies to restructure, the new restructuring process may be better suited to small businesses.
  • A new, simplified restructuring process drawing on key features of the US Chapter 11 bankruptcy process will be introduced for eligible small businesses so that they can restructure their debts, maximising their opportunity for survival. The process will allow small businesses to access a single, streamlined process while allowing the owners to remain in control of their business.
  • The new restructuring process is not only aimed at enhancing the rate of successful restructure but also providing a pathway for distressed small business that historically may not have entered voluntary administration due to the loss of control associated with that process.

How will the new process work?

  • A small business facing financial distress with liabilities under $1million approaches a SBRP (or Insolvency Practitioner) to discuss their options. The practitioner reviews and advises whether that the new restructure process is the most appropriate option in their circumstances, and the owners accept the advice. The practitioner proposes a flat fee for their work in helping the small business develop a restructuring plan.
  • Following a resolution of the board, the small business signs up the practitioner as their SBRP. On commencement, unsecured and some secured creditors are prohibited from taking actions against the company, a personal guarantee cannot be enforced against a director or one of their relatives, and a protection from ipso facto clauses (that allow creditors to terminate contracts because of an insolvency event) apply (with the same protections applying as during voluntary administration).
  • The business owner works alongside the SBRP over a 20 business-day period to develop a plan to restructure the business’ debts and provide supporting documents for creditor consideration. During this time, the owners continue to control the business and can trade in the ordinary course of business. The SBRP also develops a remuneration proposal to cover their management of the plan once in place.
  • The SBRP sends the plan and supporting documents to creditors and certifies whether they consider the business can meet the proposed repayments and has properly disclosed its affairs. Creditors have 15 business days to vote on the plan, including the proposed remuneration for the SBRP. The business must lodge any outstanding tax returns and pay any employee entitlements which are due and payable before a plan can be put to creditors.
  • If at least 50% of creditors by value endorse the plan, it is approved and binds all unsecured creditors. Creditors vote as one class. Just as with the voluntary administration process today, secured creditors are only bound by the plan only to the extent that any portion of their debt exceeds the realisable value of their security interest. In this case it is the amount that exceeds the realisable value that is effectively “unsecured” and impacted by the plan. To support the integrity of the process, related-party creditors are not entitled to vote.
  • If the plan is approved, the business continues and the SBRP administers the plan by making distributions to creditors according to the terms of the plan. If voted down, the process ends, and the company owners may opt to go into voluntary administration or to use the proposed simplified liquidation process.

What are the other key features?

  • Safeguards will be included to prevent the process from being used to facilitate corporate misconduct such as illegal phoenix activity. They include a prohibition on related creditor voting on a restructuring plan, a bar on the same company or directors using the process more than once within a prescribed period (proposed at 7 years), and the provision of a power for the SBRP to stop the process where misconduct is identified.
  • Key mechanisms will be included as part of the restructuring process to ensure that creditor interests are represented and protected. Importantly:
  • The role of the SBRP, who will administer the process, remains independent. The SBRP will have important obligations they must fulfil on behalf of creditors (such as certifying the plan).
  • Key creditor rights will be preserved. For example there are no changes to the rights of secured creditors and similar types of debts are treated consistently.

This can be a very confusing process. Our role is to ensure you have a full understanding of the process and your options. We are here to help you – call us on 9251 5222.