The government’s insolvency reforms, which commenced on 1 January 2021, created a new simplified liquidation and new debt restructuring process for small companies/SMEs in particular, and has provided directors with the control and flexibility they need to either restructure their business or wind down operations. In essence, the reforms have allowed viable businesses to survive, or else wind up and move on as quickly as possible, thereby maximising any returns available for creditors and shareholders.
2022 has seen a slow-down in insolvency reform as the economy steadily recovered from the effects of Covid-19 and businesses adapted to working in a post-pandemic environment with both the challenges, and opportunities, which that brings. However, in early 2022, the Morrison government did announce a number of bankruptcy & insolvency measures which they were seeking to implement. Many of these measures had already been the subject of a formal consultation process from either the Department of Treasury or the Attorney-General’s Department.
However, the federal election on 21 May 2022 has undoubtedly had an impact on which of these measures have been given focus and which have essentially been put on hold or scuppered. Now that the Morrison government are no longer in power, the likelihood and possible timing of a large majority of the proposed reforms in this Guide is far less clear. Indeed, we are yet to see progress on any of the reforms. Only time will tell as to whether these proposed reforms will be sanctioned and implemented under the current Albanese government.
Hence, this Guide provides you with an outlook to potential developments for 2023 to ensure you remain informed and can, in turn, adequately and competently advise your clients. Our Guide is structured by chapters, with each chapter focusing on a specific proposed measure, as follows:
- Chapter 1 – One-year bankruptcy
- Chapter 2 – The treatment of trusts
- Chapter 3 – Review of safe harbour provisions
- Chapter 4 – Improving schemes of arrangement
- Chapter 5 – Unfair preference claims and assetless administrations
- Chapter 6 – Director penalty notices and the ATO
- Chapter 7 – What else should I be aware of?
- Conclusion and key takeaways
Chapter 1 – One-year bankruptcy
In February 2022, the Attorney-General proposed to reduce the automatic term of bankruptcy from 3 years to 1 year and sought feedback from industry stakeholders. This amendment was originally proposed in 2017, again in 2021 and most recently in February 2022. The benefits of a reduced term of bankruptcy are that it allows a party to no longer declare that they are bankrupt and permits them to be appointed as a company director.
However, the proposal may exclude bankrupts from being eligible for the reduced term where, in the last 10 years, they have:
- been bankrupt,
- been banned as a company director,
- had their bankruptcy extended through an objection to discharge, or
- have been convicted of certain offences – such as fraud-related offences.
This consultation process closed on 25 February 2022. Submission feedback from industry stakeholders raised the following points:
- reducing the default period of bankruptcy to 1 year arguably favours the bankrupt and may reduce the deterrent aspect of bankruptcy,
- there may be the possibility for a bankrupt to be released early from a 3-year bankruptcy (ie potentially after 1 year) if the bankrupt has cooperated and complied with all obligations – akin to a good behaviour clause, and
- it may be difficult to look at the default period of bankruptcy in isolation as any reforms may have an impact on another part of the insolvency process ie a more holistic approach may be required.
This proposal is still on the table with no further development in 2022.
Chapter 2 – The treatment of trusts
In late 2021, Treasury sought feedback on the treatment of trusts under insolvency law. A corporate trust arises when a company acts as the trustee of one, or more, trusts. Australia’s current corporate insolvency laws do not express a clear regime to cover how corporate trusts or companies structured through a trust, are dealt with during insolvency. An administrator generally must apply to the court for directions which can dissipate the funds available for creditors. The uncertainty around trusts may stifle investments in corporate trusts due to a lack of transparency or hinder distressed companies from being able to use the insolvency framework to turnaround their business, due to the court costs involved.
The government’s consultation process sought to clarify:
- when a trust is taken to be insolvent,
- the role of an external administrator,
- how trust assets and liabilities are to be administered including a statutory order of priorities, and
- removal of a trustee.
The consultation process closed on 10 December 2021. Submission feedback from industry stakeholders raised the following points:
- accessing trust resources is difficult where a trustee company becomes insolvent,
- a legislative definition of when a trust is taken to be insolvent, is crucial,
- reducing the dependency of an administrator on the court is warranted in order to reduce costs,
- only one trust company should be the trustee of any one trust at a time, not multiple,
- businesses need to be better informed on dealing with trusts, and
- the potential impacts of any reforms on beneficiaries and trust creditors need to be considered.
Of significance, the Morrison government pledged $7 million in the May 2022 federal budget for these reforms. However, this proposal is still on the table with no further development in 2022.
Chapter 3 – Review of safe harbour provisions
Australia’s safe harbour provisions have been in effect for over 4 years and now warrant review. In 2021, Treasury sought stakeholder and industry feedback on the safe harbour regime via a formal consultation process. Some of the questions asked by Treasury include whether the pre-conditions for a director to access safe harbour are appropriate and what is the exact role of advisers.
Australia’s insolvency laws impose a duty on company directors, under s 588G of the Corporations Act, to prevent a company from trading whilst insolvent. However, the safe harbour provisions (ss 588GA and 588GB) provide an exception in allowing financially distressed businesses to continue to operate whilst restructuring their affairs. The rationale is to support viable businesses and encourage entrepreneurship.
The consultation process closed on 1 October 2021. Submission feedback from industry stakeholders raised the following points:
- there is a lack of understanding and a stigma associated with the safe harbour provisions, in part due to a lack of judicial guidance, thereby preventing many directors from engaging in the scheme,
- many creditors feel that the safe harbour provisions unfairly favour directors, and not them,
- if a director fails to provide books or records to a liquidator or administrator, they should also be prevented from relying on those materials in order to establish safe harbour,
- how illegal phoenixing will impact on the safe harbour regime needs to be assessed, and
- formal guidance from ASIC is needed, as to how the safe harbour provisions operate in practice.
The Morrison government’s final report, and recommendations on amendments to the safe harbour provisions, was tabled in parliament on 24 March 2022. On 29 March 2022, the Morrison government pledged $0.8 million in the federal budget for these reforms. However, there has been no further development on this proposal since the federal election in May 2022.
Chapter 4 – Improving schemes of arrangements
A scheme of arrangement is a corporate restructuring process which is regulated under Pt 5.1 of the Corporations Act. It can be used to assist financially distressed, but solvent, companies to restructure their balance sheets in order to avoid voluntary administration and liquidation.
A scheme allows for the creation of a binding agreement between the company and its creditors, which allows the company to continue trading whilst varying the terms of debts or claims between the parties. This may involve the company restructuring the debt owed to affected creditors, allowing for interest-free periods, payment by instalments over an extended period of time or debt for equity swaps.
In 2021, Treasury sought feedback on whether an automatic moratorium (prohibition) should be applied on creditor claims or enforcement actions during the formation of a scheme. A moratorium protects against creditor actions and affords financially distressed companies with some breathing space during the process.
The consultation process closed on 10 September 2021. A total of 26 submissions were received including several from top-tier firms. To date, there has been no further development on these reforms.
Chapter 5 – Unfair preference claims and assetless administrations
An unfair preference may arise where a company pays a particular creditor, or creditors, shortly before going into bankruptcy. If the payment has the effect of putting those creditors at an advantage over other creditors, it may be viewed as an unfair preference.
In 2021, the Morrison government sought to simplify the rules governing unfair preference claims by liquidators, whereby creditors who act honestly and at arm’s length can’t be pursued if the transaction is under $30,000 or made more than 3 months prior to the company entering administration. In this case the payment can no longer be clawed back. These changes are consistent with the unfair preference rules under the simplified liquidation process which commenced in January 2021.
An assetless administration occurs where a company has little, or no, assets remaining when it enters liquidation. The Assetless Administration Fund was established by the government and is administered by ASIC. It funds preliminary investigations and reports by liquidators into the failure of companies with few, or no, assets, with a particular focus on curbing illegal phoenixing and fraudulent activity. It can also fund a liquidator to take action to recover assets where possible.
In the May 2022 federal budget, the Morrison government announced a total of $22 million for reforms to unfair preference rules, including $20 million to the Asset Administration Fund, from 1 July 2023. Liquidators would be able to apply for a maximum grant of $5,000 per assetless administration. However, initial feedback from industry stakeholders suggested that this grant falls significantly short of the actual costs of conducting an assetless administration. In practice, the total costs are more akin to $15,000 to $20,000 per administration. Amongst other tasks, the administration involves the preparation of two detailed mandatory reports for creditors. If directors fail to cooperate with an administration investigation, then the liquidator must seek the assistance of ASIC, which can further add to the costs. The risk of insufficient funding to conduct proper administrations could see an increase in zombie companies, who have minimal funds to continue operating but insufficient to pay off their debts.
In addition, following the pandemic, a large number of companies have dissipated their assets and been automatically deregistered by ASIC. An insolvency practitioner can’t be appointed to a deregistered company, meaning it is more difficult for that company to be held accountable for their debts. Creditors must approach the court in order to have the company reinstated, which can result in further costs and may leave little assets.
Chapter 6 – Director penalty notices and the ATO
There is evidence that, following the pandemic, the Australian Taxation Office (ATO) has returned to “business as usual” when it comes to the collection of debts.
As at the end of March 2022, the ATO had issued 50,000 director penalty warning notices. A director penalty warning notice provides a director with notice of 21 days in which to take action on their outstanding debts or face ATO penalties. These debts may relate to GST, PAYG withholdings or a Superannuation Guarantee Charge. If the director fails to take the required action within the specified timeframe, the ATO may issue a Director Penalty Notice (DPN).
A DPN is a formal notice which the ATO sends to a company director, which can make the director personally liable for the company’s tax debts. As of September 2022, the ATO was issuing over 200 DPN’s each day.
To avoid personal liability a director must pay the debt(s), put the company into liquidation or voluntary administration, or appoint a small business restructuring practitioner. During the pandemic, the ATO was generally supportive of formal debt restructuring proposals (such as small business restructuring or voluntary administration) as it recognised the financial struggle facing some businesses. However, the increase in the volume of director penalty warning notices issued, appears to have signaled an end to the ATO’s “light touch approach” when it comes to debt collection, particularly as the economy continues to rebound from the effects of Covid-19.
If the ATO continues to pursue its debt collection activities more fervently, we could see a rise in the number of insolvencies, as we enter 2023. A balance needs to be maintained between saving viable businesses versus those businesses which are simply flatlining and failing to contribute to the economy.
Chapter 7 – What else should I be aware of?
Practitioners should also be aware of the additional measures below.
Both the promotion of Pt IX debt agreements and the targeting of untrustworthy advisers were consulted on by the Attorney-General. The consultation for both of these proposals closed on 25 February 2022; yet we are still awaiting the next steps.
Promoting Pt IX debt agreements
The Morrison government proposed additional measures to promote debt agreements as a viable alternative to insolvency. A debt agreement is an agreement between a party who owes money and their creditors, on how those debts will be handled. The agreement is a formal way of settling most debts without going bankrupt and represents a good option, particularly for smaller businesses who may still be struggling financially post-pandemic.
The reason for this increased promotion was the Morrison government’s concern in the reduced use of debt agreements. National volumes fell from 11,549 in the 2018-19 period, to 3,731 in the 2020-21 period. Some of this reduction has, no doubt, been the result of the financial responses to Covid-19 from both the government and major lenders, including prop-up support measures. However, since the numbers have not materially increased (even as we emerge from the pandemic), the Morrison government considered:
- extending the default term limit on debt agreements from 3 years to 5 years,
- increasing the debt and income eligibility threshold – currently set at $121,030 and $90,772.50 respectively – to match the asset eligibility threshold, currently set at $242,060,
- reducing the exclusion period from 10 years to 7 years for those who have previously been bankrupt, in a debt agreement or a Pt X personal insolvency agreement, and
- proposing that a debt agreement will not be defined as an “act of bankruptcy”.
The consultation process closed on 25 February 2022. Submission feedback from industry stakeholders raised the following points:
- There is a risk in extending the time limit on debt agreements to 5 years as there is the potential for parties to stagnate on the agreement or default on their debts. The flexibility and advantage of debt agreements should remain with creditors. There may be cases where a 5-year period is beneficial to creditors, although this is likely to be rare.
- Reducing the exclusion period from 10 years to 7 years may be acceptable but only where the debt agreement process was discharged without any default.
Targeting untrustworthy advisers
This focus from the Morrison government in early 2022, to crack down on unscrupulous financial advisers no doubt stemmed, in some way, from the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry (Banking Royal Commission).
In an effort to further detect and stamp out pre-insolvency advice by untrustworthy advisers, the Attorney-General sought stakeholder views on expanding the Bankruptcy Act to:
- oblige bankrupts to disclose details of pre-insolvency advice,
- oblige registered bankruptcy trustees to make enquiries about pre-insolvency advice and provide that information to the Australian Financial Security Authority (AFSA), and
- make it an offence for an adviser to aid or abet any person to commit, or attempt to commit, any Bankruptcy Act offence. For example, assisting a client to defeat creditors by disposing of property, withholding information or frustrating the bankruptcy process.
The consultation process closed on 25 February 2022; yet we are still awaiting the next steps.
Conclusion and key takeaways
As practitioners it is important to stay ahead of the marketplace and be aware of what may be around the corner in 2023. This is essential in order to adequately:
- Prepare your business – by developing or adapting processes (if necessary) to deal with change,
- Advise clients accordingly – on potential changes which may impact them or their business, and
- Seek further information – to fill in any gaps (where required).
This foresight knowledge will also give you a competitive edge in demonstrating to your clients that you are across, not only the current law, but also potential future developments into 2023. Being in a position to have an informed conversation with your clients provides real value-add to your business relationships.
Rely on our award-winning CCH Pinpoint® platform for detailed Bankruptcy & Insolvency commentary, news and guidance to ensure you always stay in the know.
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- Attorney-General’s Department, Possible reforms to the bankruptcy system, 27 January 2022, accessed 30 November 2022.
- The Department of Treasury, Clarifying the treatment of trusts under insolvency law, 15 October 2021, accessed 30 November 2022.
- The Department of Treasury, Review of the insolvent trading safe harbour, 3 September 2021, accessed 30 November 2022.
- The Department of Treasury, Review of the insolvent trading safe harbour – Final report, 24 March 2022, accessed 30 November 2022.
- The Department of Treasury, Government response to the review of the insolvent trading safe harbour, 24 March 2022, accessed 30 November 2022.
- The Department of Treasury, Improving schemes of arrangement to better support businesses, 2 August 2021, accessed 30 November 2022.
- The Hon Michael Sukkar Assistant Treasurer, Media Release, Simpler and fairer insolvency processes, 30 March 2022, accessed 30 November 2022.
- The Australian Securities and Investments Commission, Assetless Administration Fund, accessed 30 November 2022.
- Australian Government, Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, Final Report, 1 February 2019, accessed 30 November 2022.
- CCH Pinpoint ®, Government announces further insolvency reforms, 6 April 2022, accessed 30 November 2022.