bankruptcy By Lawyers

Recent case law developments may have significance for directors and creditors

1 January 2016 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

Introduction

Two decisions from the Supreme Court of New South Wales may be of interest to some readers. Although these decisions have been much commented upon within the insolvency industry, we have noted that the implications of these decisions may not have been broadly disseminated to others. The most recent decision pertained to the winding up of a corporate trustee, the result of which potentially exposes directors to significant personal liability. The second decision impacts on secured creditors when a company over which it holds security enters into voluntary administration.

Winding up a corporate trustee

INDEPENDENT CONTRACTOR SERVICE (AUST) PTY LIMITED (IN LIQ) (ICS) (NO 2) [2016] NSWSC 106

Readers may recall that in April 2015, we published an article about two conflicting decisions pertaining to the winding up of a corporate trustee. One of those decisions was handed down by his Honour Brereton, J. The decision in ICS flows on from his earlier judgement.

The Facts

ICS acted as trustee of the Independent Contractor Services Trust (the ICS Trust) that carried on a labour hire business. Following the completion of an audit, the Australian Taxation Office raised significant debts against ICS and as a result an administrator was appointed to ICS and it was subsequently wound up. The administrator/liquidator realised assets of the ICS Trust in the course of completing their duties. The ATO lodged a proof of debt in the winding up for $11.594M which included a priority claim of $2.274M in respect of unpaid superannuation guarantee charge. The liquidator applied to the court for numerous orders and directions but relevantly, directions were sought as to:

the manner in which monies were to be distributed;
the liquidator’s entitlement to remuneration.

The Distribution of Trust Assets

His Honour Brereton J found that section 556 of the Corporations Act (the Act), which sets out the order of priority for the distribution of monies realised from the assets of liquidated companies, does not apply to distributions from the proceeds of trust property. Although conceding that the law in relation to the distribution of trust property was not settled, Brereton J reasoned that the creditors of the trust should rank equally in the distribution of trust property. In any event, he said that in this particular case, even if subsection 556(1)(e) of the Act applied, the superannuation guarantee charge would not rank in priority as the contractors engaged by ICS were not its employees.

Remuneration

A liquidator of a company that is the trustee to a trading trust is entitled to be paid his or her costs and expenses. Approval of remuneration is ordinarily sought from creditors by liquidators pursuant to either section 473 or 499 of the Act. However, His Honour effectively said that these sections apply to company property only. Consequently, a liquidator of a trustee company must have his remuneration and disbursements approved by the court if they are to be paid out of the realisation of trust property.

Implications for Trustees & Directors

This decision may potentially impact upon directors of trustee companies in circumstances where superannuation or other employee entitlements remains unpaid at the date of the trustee company being wound up. Previously, we have published articles about the potential exposure of directors who do not properly manage the solvency or statutory compliance (superannuation, PAYG withholding) of their companies and become the subject of director’s penalty notices issued by the Australian Taxation Office (ATO) or other liabilities for breach of duty including the duty to prevent the company from trading whilst insolvent.

A director’s capacity to recover monies paid to the ATO under the director’s penalty notice regime in respect of a company’s debts may be restricted in circumstances where employees remain unpaid on finalisation of the winding up of a trustee company as a result of the distribution of trust assets amongst trust creditors equally without regard to the priority usually afforded employee creditors. The failure of directors to ensure employee creditors are not disadvantaged may also exacerbate the negative impact of having breached their statutory and fiduciary duties to employees, creditors and other beneficiaries. As such, the decision highlights the importance of directors acting in this dual capacity to ensure that all employee entitlements are paid in full prior to winding up or replacing a corporate trustee.

Secured creditor and voluntary administration

BLUENERGY GROUP LIMITED (SUBJECT TO DEED OF COMPANY ARRANGEMENT DOCA) (ADMINISTRATOR APPOINTED) (BLUENERGY) [2015] NSWSC 997

The Facts

Until recently, when a company went into administration and a deed of company arrangement was propounded, it was generally accepted that secured creditors would not be bound by the terms of the deed of company arrangement unless they voted for it. This allowed companies to manage their unsecured creditors without impacting on the rights of parties to whom the company had granted securities. However, for the first time since the introduction of Part 5.3A of the Act, the generally accepted practice that secured creditors would not be affected by deed of company arrangement agreements has been fundamentally altered.

In this case, Keybridge Capital Ltd (Keybridge) had advanced $300,000 to Bluenergy Group Ltd (Bluenergy) and was granted a second ranking circulating security interest in the assets of Bluenergy. In April 2014, voluntary administrators were appointed to Bluenergy. At that time, Keybridge was owed approximately $1.3 million.

A deed of company arrangement was approved by the creditors of the company and executed on 18 August 2014. The deed of company arrangement provided that all creditors’ claims were extinguished at the commencement of the deed. Keybridge did not participate in the voting as was standard practice for a secured creditor who did not intend to be bound by the terms of the deed of company arrangement.

On 19 March 2015, Keybridge appointed an administrator to Bluenergy pursuant to section 436C of the Act. The administrators of the deed of company arrangement objected to this appointment on the grounds that the deed of company arrangement had extinguished the debt owed to Keybridge. As such, the deed administrators argued that Keybridge was unable to appoint an administrator and that the appointment of the administrator be terminated.

Keybridge defended its actions on the grounds of subsection 444D(2) of the Act, which states in part that a deed ‘does not prevent a secured creditor from realising or otherwise dealing with the security interest’. The exception to this provision of the Act is if the secured creditor had voted for the deed of company arrangement or the court has ordered otherwise.

Findings in relation to Secured Creditors Rights

His Honour Black J found that:

the deed of company arrangement extinguished the personal interest of Keybridge in the secured property (that is the debt owed by Bluenergy) in accordance with subsection 444D(1) of the Act by force of the release contained in the deed which took effect from the date of its execution;
by reason of Keybridge abstaining from voting, that release was subject to the preservation of the ability of Keybridge to realise or otherwise deal with its proprietary interest in the property that was subject to its security immediately prior to the release of claims effected by the deed of company arrangement;
even though Keybridge was entitled to appoint an administrator, the appointment should be terminated as it frustrated the purposes of Part 5.3A in that it was likely prejudicial to the interests of creditors who had approved the deed of company arrangement and in any event, there was no utility in its continuance as the only debt owing in the subsequent administration was the previous administrator who opposed the second appointment in circumstances where the debt to Keybridge had been extinguished.

In summary, the effect of the deed of company arrangement in these circumstances was to extinguish the debt owed by the company to its secured creditor without compromising the rights that the secured creditor held over the property of the company the subject of its security. Although it was entitled to appoint an administrator to the company, there was no point in doing so as it was effectively no longer a creditor of the company and the only remaining creditor of the company opposed the appointment.

Implications for Secured Creditors

This decision has serious implications for secured lenders and will probably result in secured creditors becoming more interventionist in deed of company arrangement negotiations, particularly in relation to release provisions which often do not become effective until conclusion or effectuation of the deed of company arrangement. It could also result in secured creditors seeking to block approval of deed of company arrangement proposals or exercising rights to appoint a receiver and manager.

Directors beware

1 January 2015 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

The Director Penalty Regime was introduced to give the Australian Taxation Office (ATO) power to make company directors personally liable for certain unpaid company taxation debts. It is imperative that company directors and their advisors understand the regime and its operation, in order that they can take steps to avoid personal liability.

In this newsletter, we discuss the operation of the regime, and most importantly, how director penalties are enforced. We also discuss changes to the regime introduced on 1 July 2012, which allow the ATO to hold a director personally liable even after an administrator or liquidator has been appointed to the company.

Imposition of Director Penalties

A director penalty is imposed on a director where certain company taxation debts remain unpaid at the end of the day on which they become due. A full listing of the taxation debts covered by the regime can be found in section 269-10 of Schedule 1 to the Taxation Administration Act 1953 (Cth), but the most common taxation debts to which the regime applies are PAYG withholding and superannuation guarantee charge. The regime also applies to estimates issued by the ATO in respect of these types of taxation debts.

For example, if a company withholds amounts from employee wages in respect of PAYG, the amounts withheld will become payable at a future date, known as the ‘due day’. If the withheld amounts are not paid to the ATO before the end of the due day, then a director penalty, equal to the amount of the unpaid PAYG is imposed on all directors of the company at the time the debt was incurred. The regime also applies to newly appointed or recently retired directors.

The due day for PAYG is usually the day on which a company’s BAS or IAS lodgement is due, and for superannuation guarantee charge it is one month and 28 days after the end of each financial quarter. Whilst a director penalty is imposed at this time, the ATO is prohibited from enforcing a director penalty until it has issued a Director Penalty Notice.

The director penalty and the corresponding company taxation debt are concurrent liabilities. If a company pays its taxation debt after a director penalty has been imposed under the regime, then the director penalty is also discharged to the same extent, and vice versa. Please note, discharging of a director penalty is different to remittance of a director penalty, which is discussed below.

Enforcement and Remittance of Director Penalties

The ATO must issue a Director Penalty Notice to a director and allow a period of 21 days before it can bring court proceedings against a director for the recovery of a director penalty.

The ATO is required to send a notice to the address of a director noted in the records maintained by the Australian Securities and Investments Commission, whether or not that address is current. The ATO may alternatively send notice to a director at their registered tax agent’s address.

Once a director penalty has been imposed by the ATO, there are 3 ways in which a director can have that penalty remitted, namely:

causing the company to comply with its obligations to pay amounts to the ATO; or
appointing a voluntary administrator to the company; or
having a liquidator appointed to the company.

Directors should note that these remittance provisions are available prior to the issuance of a Director Penalty Notice by the ATO. It is appropriate for directors to consider exercising these options as soon as they become aware of taxation debts remaining unpaid after the due day.

If a valid Director Penalty Notice has been issued, and 21 days has passed since it was issued, the remittance provisions are no longer available to a company director, and either the company or the director must pay the amount due to the ATO.

Lock-Down Director Penalty Notices – The Importance of Reporting

If PAYG or superannuation guarantee charge remains unreported and unpaid for more than 3 months after the due day, a director is unable to have a director penalty remitted by the appointment of an administrator or liquidator. In these circumstances, the ATO must still issue a Director Penalty Notice, known as a Lock-Down Director Penalty Notice, and wait the required 21 days. Once the 21 days have passed, a director who receives a Lock-Down Director Penalty Notice must pay the director penalty, or cause the company to pay the corresponding company taxation debt.

It is important to note that the ATO is able to issue a Lock-Down Director Penalty Notice even after an administrator or liquidator has been appointed to a company, if applicable taxation debts that were not reported to the ATO within 3 months of the due day remain unpaid. The only way to avoid a Lock-Down Director Penalty Notice is to ensure that all company taxation debts are reported to the ATO within 3 months of the due day.

Defences to Director Penalties

In the event that proceedings are commenced against a director, there are only limited defences available to company directors. Those defences are:

illness or incapacity (A director was unable to take part in the management of a company.);
all reasonable steps (All reasonable steps were taken by a director to comply with his or her obligations, or no such steps were available.);
superannuation guarantee charge – reasonably arguable position (A director adopted a reasonably arguable interpretation of superannuation guarantee charge legislation.).

Right of Indemnity and Contribution

A director that has paid a director penalty to the ATO, is entitled to recover that amount from the relevant company, in the same manner that a person can recover amounts paid under a guarantee of a company debt. A director that has paid a director penalty is also entitled to recover amounts from anyone that was also a director at the time the corresponding company taxation debt was incurred, as if all those directors were joint and several guarantors.

PAYG Withholding Non-Compliance Tax

Whilst not technically part of the regime, the PAYG withholding non-compliance tax was introduced with Lock-Down Director Penalty Notices. This new tax allows the ATO to deny a director, or their close associates, tax credits in their personal tax returns, where the PAYG withholding amounts have not been paid to the ATO. If a director has been issued a Director Penalty Notice, then they can also be denied credits on their personal tax return, for the same underlying principle company PAYG debt, in effect causing a director to pay twice at the same time. Of course if such a director does pay both amounts, it would be expected that they would obtain the benefit of the denied credits in the following period.

Garnishee on Directors’ Bank Accounts

Garnishees allow the ATO to compel payment from a third party that holds amounts due to, or on behalf of, a taxpayer that is indebted to the ATO. Once a Director Penalty Notice has been issued, and the 21 day period has expired, the ATO is entitled to seek a garnishee order against any third party that owes money to, or holds money on behalf of, the relevant director, including a director’s personal bank accounts.

Conclusion

The ATO will not hesitate to use the regime, and in particular Lock-Down Director Penalty Notices, as it is the only legislative method by which the ATO can hold a director personally liable for company debts. Directors and their advisors should ensure that timely and accurate financial information is available to facilitate prompt action when a company begins to have difficulty meeting its taxation obligations, or a director risks becoming personally liable.

The introduction of Lock-Down Director Penalty Notices to the regime means that reporting of taxation debts to the ATO is more important than ever. The looming spectre of a LockDown Director Penalty Notice should motivate all company directors to ensure that taxation debts are reported to the ATO on time, regardless of whether they are able to pay the debts being reported. Once the hard deadline of 3 months past the due day has expired, there is nothing a company director can do to avoid personal liability.

Winding up a corporate trustee

1 January 2015 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

Introduction

Winding up a company that acts as the trustee of a trust is a common occurrence. Many of the underlying principles in liquidating a corporate trustee have long been established. However, the circumstances in which a liquidator has the power to deal with trust property still lack clarity. This has been highlighted in the conflicting decisions of the court that were handed down late last year; the first in the Federal Court of Australia in Kitay, in the matter of South West Kitchens (WA) Pty Ltd [2014] FCA 670, the second in the Supreme Court of New South Wales in the matter of Stansfield DIY Wealth Pty Limited (in liquidation) [2014] NSWSC 1484 (30 October 2014).

South West

The facts

The liquidator of South West sought directions from the court that he had the power to sell trust property pursuant to s 477(2)(c) of the Corporations Act 2001. The application was made in circumstances where there were potentially conflicting authorities as to the power of a liquidator in dealing with trust property. At the time of the Liquidator’s appointment:

South West was trustee of the South West Kitchen Unit (Hybrid) Trust (the trust).
All of the assets of South West were owned in its capacity as trustee of the trust.
The trust deed for the trust provided that upon liquidation, South West was disqualified from acting as trustee.

The law

The ‘foundational concepts’ based on existing authorities were set out in the judgment of McKerracher J, delivered on 24 June 2014. These concepts are summarised as follows:

A trustee has a right of indemnity out of the trust assets for expenses and liabilities incurred on behalf of the trust and a right of exoneration from liability.
A trustee is entitled to the benefit of an equitable lien over the trust assets as a means of securing its rights of indemnity and/or exoneration.
When a liquidator is appointed to a trustee company, the liquidator acquires the same rights of indemnity and exoneration.
The equitable lien securing the trustee’s right of indemnity and exoneration does not give the (removed) trustee power of sale. Rather, it is a security which is enforceable by the trustee only by way of judicial sale or by the appointment of a receiver with a power of sale.

According to his Honour, the issue arising beyond these concepts and on which there may be some doubt in the authorities, is whether the liquidator of a trustee company that is unable to continue acting as trustee:

can exercise the power of sale granted to liquidators pursuant to s 477(2)(c) of the Act;
is required in each instance to obtain a court order to sell trust assets.

His Honour expressed the view that the operation of s 477(2)(c) in these circumstances had not been expressly considered in previous judgments, except in the decision of Finkelstein J in Apostolou v VA Corporation AUST Pty Ltd [2010] FCA 64A (Apostolou). In that case, his Honour found that the liquidator had a dual power to realise trust assets in the course of winding up a company which acted as trustee, where the company has both legal title and an equitable interest in the trust assets; that power being conferred pursuant to the trust deed and also pursuant to s 477(2)(c) of the Act.

The decision

In delivering his judgment, his Honour followed the decision in Apostolou, finding that:

South West had both legal ownership of the assets of the trust as a bare trustee and beneficial interest in the assets as a holder of an equitable lien.
There is no reason in policy or principle and none referred to in the authorities discussed, as to the why a liquidator’s powers of sale should be limited by the terms of a private trust agreement.
There appears to be no constraint on the power of sale under s 477(2)(c) of the Act, nor does it impose any limitation on the power of sale insofar as the assets of a company held on trust.
In the absence of any statutory constraint or other complication, there appears to be no other reason why a liquidator ought not be permitted in a straightforward case to discharge their duties to conduct the liquidation in the ordinary manner.
Proceeding this way makes good practical sense avoiding the need for liquidators of trustee companies to approach the court on every occasion to seek approval to sell trust assets.

Accordingly, his Honour declared that the liquidator had power pursuant to s 477(2)(c) of the Act to sell, dispose or otherwise deal with the assets of the trust.

Stansfield

The facts

The liquidator of Stansfield sought directions from the court to the effect that the company in liquidation be permitted to sell or otherwise deal with the property of a superannuation fund. This application was no doubt filed in light of the potentially conflicting authorities but with the added complication that the property in question was held on account of a superannuation fund. At the time of the liquidator’s appointment;

Stansfield was acting as trustee of the Elliot Stansfield Super Fund, a regulated selfmanaged superannuation fund (the fund).
The assets of the fund totalled $108,916.
The liabilities of the fund totalled $98,941.
The only function of Stansfield was to act as trustee of the fund.

The law

In his judgment delivered on 30 October 2014, Brereton J said that there were two relevant potential scenarios; the first that the company in liquidation remained as trustee of the fund and the second, the company in liquidation does not remain as trustee of the fund.

The company in liquidation remaining as trustee of the fund

In relation to the first scenario, his Honour concluded that so long as the company in liquidation remained as trustee of the fund, then the liquidator was entitled (subject to the impact of superannuation laws) to administer the assets of the fund, pay the creditors of the fund, wind up the fund and recover all of his remuneration and expenses from the assets of the fund.

The company in liquidation not remaining as trustee of the fund

In relation to the second scenario, his Honour essentially agreed with the foundational concepts set out in South West which are summarised above. His Honour then when on to consider the possible application of s 477(2)(c) of the Act in light of the relevant case law and particular, the judgments delivered in Apostolou and South West.

The conclusion reached by his Honour was that he respectfully disagreed with the decision in Apostolou, finding instead that s 477(2)(c) does not empower a liquidator to sell the beneficial interest in property that a company holds on trust even if the company holds an equitable charge over that property because the property is not itself ‘property of the company’. To put that another way, a liquidator’s power to deal with property does not extend to property that is not beneficially the property of the company.

The impact of superannuation law

His Honour was obliged to also consider the operation of the Superannuation Industry (Supervision) Act 1993 (SISA) concluding that a company in liquidation becomes a ‘disqualified person’ for the purposes of that legislation but notwithstanding, remains as trustee of the fund. However, by continuing to be and act as trustee, a company contravenes s 126K of SISA and thereby commits an offence. If, as would be prudent, a company resigned as trustee once a liquidator has been appointed to it, then the liquidator would have no power of sale.

The decision

In light of the foregoing, his Honour declined to make the direction sought by the liquidator. Rather, his Honour proposed to make declarations and orders pursuant to s 479(3) of the Corporations Act 2001 to the following effect:

The liquidator would be justified in causing the company to resign as trustee of the fund.
The liquidator would be justified in applying to the court to be appointed as receiver without security of the assets of the fund with the powers that a liquidator has in respect of the property of a company under s 477(2)(c) of the Act.

Conclusion

It is obvious from these judgments that the law is not settled in relation to dealing with trust property in circumstances where the trustee company has been wound up and is no longer acting in that capacity. The decision in South West is commercially sensible and avoids the need for a liquidator of a trustee company to approach the court on every occasion trust property is to be sold. This of course conflicts with the judgment in Stansfield. This conflict needs to be resolved either by the legislature or the High Court of Australia. In the meantime, a liquidator appointed to a trustee company will be subject to the law of trusts in the particular state in which he or she practises and will need to seek legal advice as to the appropriate way to deal with trust assets. The partners of O’Brien Palmer are presently minded to follow the process in Stansfield until such time as they are advised otherwise.

Why would anyone want to be a director?

1 January 2015 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

A GUIDE TO DIRECTOR’S DUTIES

Introduction

Many people who accept an appointment as a company director or secretary are completely unaware of the potential risks they face from personal liability, civil penalty or criminal conviction. These risks arise primarily from failing to comply with statutory duties contained within the Corporations Act 2001 (‘the Act’) that largely mirror those duties which have been enshrined in the Common Law. In addition to those duties, there are a plethora of obligations imposed upon directors by other state and federal legislation such as taxation laws, employment standards, work health and safety regulations, environmental protection measures, consumer protection strategies, Australian Stock Exchange listing rules for publicly listed companies and privacy protocols.

In short, a person acting as a director should take his or her duties seriously. This is especially true in times of financial difficulty. This newsletter will concentrate on the duties of directors, other officers and in some cases employees as set out in the Act and the potential liability for breaching those duties.

Who has a duty to comply?

It is important to consider the persons who are obligated to comply with their statutory duties. Section 9 of the Act defines ‘officer’ to include a director, secretary or any person who acts in the position of a director, regardless of the name that is given to their position. A person who acts in the position of a director is often referred to as a ‘shadow-director’. It is worth noting that external administrators are similarly subject to the same duties as officers.

Directors duties

General Duties – Civil Obligations

Set out in the table below are the duties of company officers which if contravened, give rise to civil obligations.

Duty	Relevant Information
Care & Diligence Section 180(1)	An officer of a company must exercise their powers and discharge their duties with the degree of care and diligence that a reasonable person would in the same circumstances.
Defence Section 180(2)	Business Judgement Rule – A person who makes a “business judgment” does not breach their duty, if they: make the judgment in good faith for a proper purpose; and do not have a material personal interest in the subject matter of the judgment; and make an informed decision; and rationally believe that the judgment is in the best interests of the corporation.
Good Faith Section 181	An officer of a company must exercise their powers and discharge their duties in good faith in the best interests of the company and for a proper purpose.
Use of Position Section 182	A person who is an officer or employee of a company must not improperly use their position to: gain an advantage for themselves or someone else; or cause detriment to the company.
Use of Information Section 183	A person who obtains information because they are, or have been, an officer of a company or an employee must not improperly use that information to; gain an advantage for themselves or someone else; or cause detriment to the company.

If a person does not meet these requirements, and the Court is satisfied that the person has contravened one of the sections, then the Court can make a declaration of contravention pursuant to section 1317E of the Act, and:

impose a fine of up to $200,000 (section 1317G of the Act); and
disqualify a director from managing companies (section 206C of the Act).

The Courts are also able to impose other remedies for breach of duty. Section 598(2) of the Act provides that where the Court is satisfied that a person is guilty of fraud, negligence, default, breach of trust, or breach of duty and the company has suffered or is likely to suffer loss or damage as a result, then the Court may, on the application of either the Australian Securities and Investments Commission (‘ASIC’), an Administrator, a Liquidator or a person nominated by ASIC, make an order pursuant to section 598(4) of the Act directing that person:

to pay money or transfer property to the company; and
to pay to the company the amount of the loss or damage.

General Duties – Criminal Offences

Section 184 of the Act effectively states that an offence is committed if a person recklessly or dishonestly breaches sections 181, 182 or 183 of the Act. Persons who commit these offences may be criminally liable and be fined amounts up to $220,000 and/or be imprisoned for up to five years.

Insolvent Trading

Section 588G(1) of the Act imposes a duty on directors to prevent their companies from trading whilst insolvent. This section applies if a person was a director of a company at the time when the company incurs the debt and is insolvent at that time or becomes insolvent as result of that transaction and the director had reasonable grounds to suspect the company was insolvent or would become insolvent as a result of entering that transaction.

Breaching this duty can result is in ASIC seeking from the Court a declaration of contravention against a director and the imposition of a civil penalty pursuant to sections 1317E and 1317G of the Act. In addition and on an application for a civil penalty order, the Court has the power pursuant to section 588J of the Act to make orders:

disqualifying a person from managing companies (section 206C of the Act); and
requiring a person to pay to the company compensation equal to the loss or damage suffered by the company.

A breach of this duty is a criminal offence pursuant to section 588G(3) of the Act if the failure to prevent the company from incurring the debt was dishonest. Furthermore and in the event of liquidation, if a director has breached this section, then pursuant to section 588M(2) of the Act, the company’s liquidator may recover from the director, as a debt due to the company, an amount equal to the loss or damage suffered by the company. Alternatively, a creditor of the company, may with the consent of the liquidator, begin proceedings pursuant to section 588M(3) of the Act to recover from a director as a debt due to the creditor, an amount equal to the loss and damage suffered by the creditor directors who are the subject of claims in relation to insolvent trading may be able to avail themselves of the defences which are set out in section 588H of the Act.

Maintenance of Proper Books & Records

Section 286(1) of the Act imposes an obligation on company directors to maintain adequate books and records that:

correctly record and explain its transactions and financial position and performance;
enable true and fair financial statements to be prepared and audited.

This obligation extends to transactions undertaken by a company as a trustee.

Section 286(2) requires that the books and records of the Company be maintained for a period of seven years. Pursuant to sections 344 and 1317E of the Act, the penalties for breaching these duties may include:

the imposition of a fine of up to $200,000 (section 1317G of the Act);
disqualification from managing companies (section 206C of the Act).

Section 588E(4) of the Act provides that where a company is being wound up, and in circumstances where that company has failed to maintain proper records or retain them for the requisite period, then the company will be presumed to be insolvent for the period for which the records are not available. This can give rise to serious consequences where it is being alleged that a director has allowed a company to trade whilst insolvent.

Click here to view ASIC website – What books and records should my company keep?

Trust liabilities

Corporate trustees are very common. Pursuant to section 197 of the Act, where a company is acting as or purporting to act as trustee and incurs a liability which it cannot meet, a director of that company can be held liable to discharge the whole or part of the liability if the company is not entitled to be fully indemnified against the liability out of trust assets because of one or more of the following:

the company has breached its trust;
the company was acting outside the scope of its powers as trustee;
a term of the trust denying, or limiting, the company’s rights to be indemnified against the liability

General Requirements

In addition to the foregoing, the Act requires directors to:

update the company database maintained by ASIC as required to ensure its accuracy in accordance with sections 142, 146, 168, 205B, and 205D of the Act.
comply with all reasonable requirements and provide proper assistance to validly appointed external administrators pursuant to sections 475 and 530A of the Act.
refrain from acting as a director of a company, whether formally appointed or not, if excluded from doing so pursuant to sections 206B and 206C of the Act. This most relevantly excludes bankrupts or anyone who has entered into a personal insolvency agreement under Part X of the Bankruptcy Act 1966.
disclose to other directors of their companies any potential material conflicts of interests that they might have in relation to the conduct of their duties as director in accordance with sections 191 – 195 of the Act.

External administrators’ obligation to report to ASIC

A liquidator, in carrying out an investigation into the affairs of a company and the conduct of its principles, has a statutory duty pursuant to section 533 of the Act to file a report with ASIC if the expected dividend is less than 50 cents in the dollar, setting out any identified potential offences or breaches of duty committed by officers, employees or shareholders of a Company. At its discretion, ASIC may require the liquidator to submit a supplementary report particularising the alleged offences or breaches of duty, and may also provide funding for that purpose. Similar provisions apply to a voluntary administrator or receiver if appointed.

Conclusion

If company officers and employees adopt ethical and prudent business practices, then they are unlikely to breach their statutory duties. ASIC has issued an explanatory memorandum as to the general duties of directors and other officers, those duties being summarised above. In the summary, ASIC advises that company officers can greatly reduce their exposure by having appropriate insurance, and if they carry out their duties by;

being honest and careful in their dealings.
remaining active and involved in the company’s operations.
making sure that their companies can pay their debts on time.
maintaining proper financial records.
acting in the best interests of their companies.

As always, directors should take appropriate professional advice from their accountants, solicitors and advisors if they are in any doubt as to their duties, or as to the consequences of potential breaches.

Click here to view ASIC website – Your company and the law

Directors beware – Piercing the corporate veil – The ATO and DPNs

1 January 2014 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

Directors beware

The Director Penalty Regime (‘the Regime’) was introduced to give the Australian Taxation Office (‘ATO’) power to make company directors personally liable for certain unpaid company taxation debts. It is imperative that company directors and their advisors understand the Regime and its operation, in order that they can take steps to avoid personal liability.

In this newsletter, we discuss the operation of the Regime, and most importantly, how director penalties are enforced. We also discuss changes to the Regime introduced on 1 July 2012, which allow the ATO to hold a director personally liable even after an Administrator or Liquidator has been appointed to the company.

Imposition of director penalties

A director penalty is imposed on a director where certain company taxation debts remain unpaid at the end of the day on which they become due. A full listing of the taxation debts covered by the Regime can be found in division 269-10 of Schedule 1 to the Taxation Administration Act 1953 (Cth), but the most common taxation debts to which the Regime applies are PAYG Withholding (‘PAYG’) and Superannuation Guarantee Charge (‘SGC’). The Regime also applies to estimates issued by the ATO in respect of these types of taxation debts.

For example, if a company withholds amounts from employee wages in respect of PAYG, the amounts withheld will become payable at a future date, known as the ‘Due Day’. If the withheld amounts are not paid to the ATO before the end of the Due Day, then a director penalty, equal to the amount of the unpaid PAYG is imposed on all directors of the company at the time the debt was incurred. The regime also applies to newly appointed or recently retired directors.

The Due Day for PAYG is usually the day on which a company’s BAS or IAS lodgment is due, and for SGC it is one month and 28 days after the end of each financial quarter. Whilst a director penalty is imposed at this time, the ATO is prohibited from enforcing a director penalty until it has issued a Director Penalty Notice.

The director penalty and the corresponding company taxation debt are concurrent liabilities. If a company pays its taxation debt after a director penalty has been imposed under the Regime, then the director penalty is also discharged to the same extent, and vice versa. (N.B. Discharging of a director penalty is different to remittance of a director penalty, which is discussed below.)

Enforcement and remittance of director penalties

The ATO must issue a Director Penalty Notice to a director and allow a period of 21 days before it can bring court proceedings against a director for the recovery of a director penalty. The ATO is only required to send a notice to the address of a director noted in the records maintained by the Australian Securities and Investments Commission, whether or not that address is current. The ATO may alternatively send notice to a director at his or hers registered tax agent’s address.

Once a director penalty has been imposed by the ATO, there are three ways in which a director can have that penalty remitted, namely;

Causing the company to comply with its obligations to pay amounts to the ATO; or
Appointing a Voluntary Administrator to the company; or
Having a Liquidator appointed to the company.

Lock-down director penalty notices – the importance of reporting

If PAYG or SGC remains unreported and unpaid for more than three months after the Due Day, a director is unable to have a director penalty remitted by the appointment of an Administrator or Liquidator. In these circumstances, the ATO must still issue a Director Penalty Notice, known as a ‘Lock-Down Director Penalty Notice’, and wait the required 21 days. Once the 21 days have passed, a director who receives a ‘Lock-Down Director Penalty Notice’ must pay the director penalty, or cause the company to pay the corresponding company taxation debt.

It is important to note that the ATO is able to issue a Lock-Down Director Penalty Notice, even after an Administrator or Liquidator has been appointed to a Company, if applicable taxation debts that were not reported to the ATO within three months of the Due Day remain unpaid. The only way to avoid a Lock-Down Director Penalty Notice is to ensure that all company taxation debts are reported to the ATO within three months of the Due Day.

Defences to director penalties

In the event that proceedings are commenced against a director, there are only limited defenses available to company directors. Those defenses are:

Illness or Incapacity (A director was unable to take part in the management of a company.)
All Reasonable Steps (All reasonable steps were taken by a director to comply with his or her obligations, or no such steps were available.)
Superannuation Guarantee Charge – Reasonably Arguable Position (A director adopted a reasonably arguable interpretation of Superannuation Guarantee Charge legislation.)

Right of indemnity and contribution

PAYG withholding non-compliance tax

Whilst not technically part of the Regime, the PAYG Withholding NonCompliance tax was introduced with Lock-Down Director Penalty Notices. This new tax allows the ATO to deny a director, or their close associates, tax credits in their personal tax returns, where the PAYG Withholding amounts have not been paid to the ATO. If a director has been issued a Director Penalty Notice, then he or she can also be denied credits on their personal tax return, for the same underlying principle company PAYG debt, in effect causing a director to pay twice at the same time. Of course if such a director does pay both amounts, it would be expected that he or she would obtain the benefit of the denied credits in the following period.

Garnishee on directors’ bank accounts

Conclusion

The ATO will not hesitate to use the Regime, and in particular Lock-Down Director Penalty Notices as it is the only legislative method by which the ATO can hold a director personally liable for company debts. Directors and their advisors should ensure that timely and accurate financial information is available to facilitate prompt action when a company begins to have difficulty meeting its taxation obligations, or a director risks becoming personally liable.

The introduction of Lock-Down Director Penalty Notices to the Regime means that reporting of taxation debts to the ATO is more important than ever. The looming spectre of a LockDown Director Penalty Notice should motivate all company directors to ensure that taxation debts are reported to the ATO on time, regardless of whether they are able to pay the debts being reported. Once the hard deadline of three months past the Due Day has expired, there is nothing a company director can do to avoid personal liability.

Pre-packs – Do they have a place in Australian insolvency practice?

1 January 2012 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

You may have noticed the occasional reference in the media to fraudulent phoenix activity and attempts by government agencies such as ASIC (Australian Securities and Investments Commission) and the ATO (Australian Taxation Office) to ‘crackdown’ on serial offenders, particularly in the building and construction industry. Phoenix activity typically involves the transfer of the business assets of a company to a new entity, with creditors being left behind with no real prospect of payment.

There has been recent discussion in the profession about the distinguishing features of a phoenix and a bird of a different feather known as a ‘pre-pack’. In the United Kingdom, pre-packs are a legitimate and accepted means to phoenix the business of a company. In Australia, there is no formal pre-pack procedure although variations of the process are often used by those who specialise in the area, particularly in the turnaround sphere. Where this occurs, the bona fides of the directors are often treated with scepticism. However in many instances, the transfer of assets from one company to a related entity may in fact be in the best interest of all stakeholders of the insolvent company.

In this newsletter, we explore phoenix activity and examine the pre-pack concept.

What is a phoenix company?

A phoenix company is usually considered to be one which is established to carry on the business of an insolvent company, using the assets and employing the staff of the insolvent company, but without accepting liability for its debts. In most cases, the members and directors of the phoenix company are the same or at least related to those of the insolvent company. The business rises from its burden of debt in a new corporate entity, using the same or a similar name, but the creditors of the insolvent company are left to recover what they can for the amounts owed to them through the liquidation process.

Is phoenix activity fraudulent?

Current legislation does not explicitly prohibit phoenix activity. However the process is one that can be easily abused with the result that the activity is often referred to as being fraudulent. Examples of phoenix activity generally considered to be fraudulent include:

transferring the business and/or assets of a company to a new entity for less than fair market value and/or on terms considered to be uncommercial;
establishing a corporate structure for the express purpose of defeating creditors by incurring liabilities through that company whilst keeping assets safe in a related entity;
deliberately incurring company debt immediately prior to the transfer of the business and/or its assets, without having any expectation that the company would be able to pay that debt.

In order to combat such activity, remedies are available within the Corporations Act, which has a number of provisions dealing with breach of duties by directors as well as provisions designed to protect creditors in the event of insolvency. Proven breaches of these provisions can result in civil and/or criminal penalties. Furthermore, the ATO is strengthening its powers using the director penalty notice regime by providing disincentives to fraudulent phoenix activity by making directors personally liable in certain circumstances for their company’s unreported unpaid superannuation and pay-as-you-go withholding amounts.

The applicable provisions of the Corporations Act are as follows:

If the phoenix sale of a company’s business and assets is for less than fair market value or on terms considered to be uncommercial, then it may be challenged as an uncommercial transaction (section 588FB), as an unreasonable director-related transaction (section 588FDA), or as a transaction to defeat creditors (subsection 588FE(5)).
If the sale is not in the best interest of the creditors, the directors may have breached their duties to the company and its creditors. These duties include the duty to act with care and diligence (section 180), to act in good faith and for a proper purpose (section 181) and to not improperly use their position or any information obtained because of their position to gain advantage for themselves or cause detriment to the company (sections 182 and 183). Should it be proven that the breach of any of these sections occurred with either deliberate intention or recklessness, then the breach may result in criminal liability for the director/s (section 184).
Pursuant to subsection 598(2), where the court is satisfied that a person is guilty of fraud, negligence, breach of trust or duty and the company has suffered loss or damage as a result, the court may make such orders as it thinks appropriate in relation to that person.
If employees and employee entitlements are not handled correctly, the director risks committing the criminal offence of entering into a transaction with the intention of avoiding employee entitlements (section 596AB).
If the directors do not prevent all unnecessary liabilities from being incurred once they realise a company may be insolvent, or likely to become insolvent, then they may have breached their duty to prevent insolvent trading (section 588G) and risk being held personally liable for those debts. If the failure to prevent liabilities from being incurred is proven to be dishonest, then the breach may constitute a criminal offence (section 588G(3)).

Proponents of pre-packs argue that, if properly completed, directors will avoid breaching the above legislative provisions.

What is a pre-pack?

A pre-pack is a sale process through which the sale of the business and/or assets of an insolvent company is agreed prior to the appointment of an insolvency practitioner, whose task is to review the sale terms and, if thought appropriate, ratify the sale. The model adopted in the United Kingdom has elements that would not be considered acceptable under Australian law and practice. For example, in the United Kingdom, an insolvency practitioner will work with management to arrange the sale of the business and assets and, after those arrangements have been made, he or she will then be formally appointed as administrator. The conflict of interest is obvious. The pre-pack model, modified to suit the Australian environment, has three distinct steps, namely:

Preparation
The directors will have the business and assets of the company valued by a reputable valuer. The sale of the company’s business and assets should be based on this valuation to ensure that fair market price is obtained.
The directors should prevent all non-essential debts from being incurred. In doing so, they will reduce any exposure to insolvent trading.
Execution
The directors then arrange the sale of the company business and/or assets to another entity, for fair market value. A conditional contract would be executed together with an agreement to operate the business under licence. To prevent the appearance of any impropriety, the completion of the contract should be subject to ratification by an administrator who would in the ordinary course seek creditor input.
The employees of the company would ordinarily be transferred to the new company, which will accept responsibility for their accrued entitlements.
The business continues being operated by the new company.
Ratification
The insolvent company then appoints an administrator (or possibly a liquidator), who will investigate the sale, test the market if appropriate, and report to creditors. The expectation of management is that the sale will be ratified. If that transpires then the administrator will complete the sale.
If the sale is not ratified, then the contract will be rescinded. Responsibility for operating and selling the business would then revert to the administrator.

Importantly, the insolvency practitioner to be appointed administrator should not advise on the process. This ensures that, following appointment, the administrator can act, and be seen to act, independently of those involved in the transaction.

If, for some reason, a sale was completed prior to appointment, then it is likely that the company would be wound up by way of a creditors’ voluntary liquidation. In those circumstances and as in any winding up, the liquidator would review the sale, and in the event it is found to be unreasonable, then he may, if commercial to do so, seek to overturn the sale under the voidable transactions provisions of the Act. The liquidator would then realise the assets for the best price possible.

Why pre-pack and not administration?

The voluntary administration regime was introduced in 1993, and was designed to provide a flexible mechanism for a company’s affairs to be administered in such a way that maximises the chances of the company or its business remaining in existence or, if that is not possible, results in a better return to creditors. It does this by imposing a moratorium on the company’s creditors, giving an administrator time to investigate the company’s affairs and consider a proposal for the company’s debt to be compromised. The proposal can take many forms and, if accepted by creditors, the company will then enter into a Deed of Company Arrangement (DOCA).

As the legislative framework for flexible restructure is already in place, then why bother with a pre-pack sale? Critics of the voluntary administration process argue it is cumbersome, intrusive, costly and detrimental to the business. Proponents of pre-packs claim they offer a better chance for existing management to save their business and for creditors to maximise their return. They say pre-packs do this by:

ensuring the continuation of the business in a new entity;
preserving the goodwill of the business and its suppliers and customers;
maximising the value of company business and assets;
avoiding a costly trade-on administration pending a sale.

In addition, creditors should have the comfort of knowing the sale is subject to review and ratification by an independent administrator. However, there are other considerations that need to be taken into account, namely:

The company will still have go through the administration process and bear the consequential costs of the administrator possibly testing the market and dealing with enquiries which may extend to entering into negotiations for the sale of the business and assets.
The appointment of an administrator and the subsequent winding up of the company will still leave the directors exposed to potential claims under the Corporations Act – for example, claims resulting from trading whilst insolvent. This means that the directors may still have to consider propounding a DOCA as part of the pre-pack process, further adding to the costs that might be incurred.
The directors or owners of the entity acquiring the business and assets will need to arrange funding not only of the agreed purchase price but also ongoing working capital. In many instances buying the business and assets of a company will not be a practical option.

Conclusion

The debate surrounding phoenix activity continues, in which the cost to the community is contrasted with the efficiency and other benefits of the pre-pack process. Should directors who phoenix the business of their companies be held more accountable? Or should the interests of creditors in an increased commercial return supersede government concerns over the director’s bona fides? The government is considering further legislative amendments to inhibit deliberate, cyclic, fraudulent phoenix activity. In this regard you might be aware that earlier this year, the government introduced what is commonly called the Similar Names Bill, which sought to amend the Corporations Act to make a director of a failed company personally liable for its debts where the related entities had the same or similar names. We understand this Bill has made no progress but it is an indication of the government’s intentions.

Whilst the voluntary administration regime already provides a mechanism for the restructure of a company’s business, it is often criticised. Proponents of pre-packs argue that a pre-pack sale of a company’s business will in many instances deliver better results than can be achieved through a standard administration, and that sufficient safeguards already exist within the Corporations Act to protect creditors’ interests. We consider that, in certain circumstances, a formal pre-pack process may be more effective than voluntary administration. We also consider that the concept deserves to be further explored.

This article was written by O’Brien Palmer insolvency authors. They are a specialist practice with national affiliations, focusing on corporate and personal insolvency and business recovery. They are committed to assisting solicitors help their clients understand and navigate the complex realms of insolvency.

The ATO rises and ups the ante – ATO granted new powers to pursue directors

1 January 2012 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

The Tax Laws Amendment (2012 Measures No.2) Bill 2012 received royal assent on 29 June 2012 and has commenced operation. This bill extends the existing director penalty notice (DPN) regime to make directors personally liable for their company’s unpaid superannuation in addition to pay as you go (PAYG) withholding amounts. This legislation acts retrospectively in respect of PAYG liabilities. It is more urgent than ever that directors be aware of the PAYG and superannuation liability position of their companies to ensure they do not become personally liable for the debts of those companies.

The new regime enables the Australian Taxation Office (ATO) to take action under the DPN system for all PAYG and superannuation debts that remain unreported and unpaid from 29 June 2012, including PAYG liabilities incurred prior to the commencement of the bill, which remain unreported for more than three months. Further, directors who fail to comply with their reporting requirements may become liable to pay the new PAYG withholding non-compliance tax, which can be set-off against PAYG credits due to directors. If directors have not reported on these liabilities for the period ending 31 December 2011, it is already too late.

Although it may take some time for the ATO to implement and utilise these new powers, company directors are risking increased enforcement action if they fail to deal with outstanding tax and superannuation liability now. The following is a guide to the director penalty notice regime and a summary of the changes which have taken effect.

Directors to become personally liable for unreported PAYG

Where a company’s PAYG liabilities remain unreported to the ATO for more than three months after the due date, the ATO may make directors personally liable immediately; and, although still required to issue a DPN prior to commencing enforcement action, the appointment of an administrator or liquidator to the company will no longer prevent directors from becoming personally liable for the company’s tax debt. The due date for reporting purposes depends on the company’s PAYG withholding amounts:

small withholders – $25,000 annually or less, 28 days after quarter end; and
medium withholders – $25,001 to $1 million annually, 21 days after month end.

Most companies which haven’t reported to the ATO on PAYG liabilities for the quarter ending 31 March 2012 will have until 21 July 2012 to report, or their directors risk being made personally liable for the amounts outstanding. For the June 2012 quarter, the final date will be 21 October 2012. Lodgement dates vary from month to month and companies lodging via a tax or BAS agent have an extra month.

Directors to become personally liable for unreported superannuation guarantee charge

Where a company has not paid superannuation by the 28th day after the end of each quarter, it is required to lodge a superannuation guarantee charge (SGC) statement by the 28th day of the following month – that is, in the second month. In circumstances where the statement is not lodged on time, the ATO can now make directors personally liable for outstanding superannuation, by issuing a DPN. This includes making directors liable based on estimates of SGC owing, rather than merely on reported figures, and liability will arise three months after the relevant lodgement date. Therefore the lodgement date for a June 2012 quarterly SGC statement would be 28 August 2012, with personal liability arising from 28 November 2012.

PAYG withholding non-compliance tax

In certain circumstances, directors and associates of directors will be prevented from obtaining PAYG credits in their individual tax returns where the company has failed to pay withheld amounts to the ATO. These amounts will be the lesser of the amount that the company has failed to remit to the ATO or the amount of tax withheld by the company from the director’s income.

The new DPN regime

In order to recover a director penalty from a director (in respect of PAYG or superannuation) the ATO must issue a DPN and wait until the expiration of 21 days from the date of the notice to commence proceedings. Personal liability is not triggered if within 21 days of the issue date:

the company complies with the obligation;
an administrator is appointed to the company; or
the company is placed into liquidation.

The critical change is that, where three months has lapsed since the due date, and the underlying liability remains unreported and unpaid, there is no relief from the director penalty by placing the company into administration or liquidation.

Therefore, the key issue under this new regime is that, in order to avoid personal liability, all liabilities should be reported no later than three months after the due date.

What do these changes mean?

To ensure directors do not become personally liable for company debts, directors should take the following steps:

ensure that business activity statements and other reporting requirements are lodged with the ATO within the required timeframes;
ensure that PAYG and superannuation amounts are reported and remitted to the ATO and relevant superannuation funds within the required timeframes;
increase the monitoring and awareness of their company’s taxation and superannuation liabilities, and act promptly where problems are identified;
increase the communication with the ATO where debts have been incurred beyond the company’s ability to meet them within the required timeframes;
seek immediate advice from their accountant or an insolvency practitioner at the first signs of trouble; and
if a DPN is received, then immediate compliance is required to ensure that the corporate veil is not pierced.

Technical guide: Voluntary administration

1 January 2010 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

Introduction

The Voluntary Administration process is regulated by the Corporations Act 2001 (Cth) (‘the Act’) and provides for the business, property and affairs of an insolvent company to be administered in a way that:

maximises the chances of the company continuing in existence; or
results in a better return for the company’s creditors and members than would result from an immediate winding up of the company.

Appointment

Who may appoint an administrator?

Pursuant to section 436A of the Act, an Administrator, who must be a registered liquidator, can be appointed by:

the majority of the company’s directors; or
a Liquidator of the company; or
a person holding a charge over the whole or substantially the whole of a company’s property.

Making the appointment

Pursuant to subsection 436A(1) of the Act, the company’s directors can appoint an administrator by passing a resolution to the effect that the company is insolvent or is likely to become insolvent at some future time.

A Liquidator, pursuant to subsection 436B(1), may by writing appoint an Administrator to the company if he or she thinks that the company is insolvent or will become insolvent. In compliance with subsection 436B(2)(f), the Liquidator can appoint himself or herself Administrator if:

at a meeting the creditors pass a resolution approving the appointment; or
the appointment is made with leave of the Court.

Pursuant to subsection 436C(1), a person who is entitled to enforce a security interest over the whole or substantially the whole of a company’s property may by writing appoint an Administrator to the company, if the security interest has become and is still enforceable.

The appointment of an Administrator cannot be made unless the proposed Administrator has consented in writing to the appointment (section 448A). A person cannot consent to be appointed Administrator unless the person is a Registered Liquidator (section 448B).

The administrator’s independence

In accordance with section 436DA of the Act and the Code of Professional Practice issued by the Australian Restructuring Insolvency & Turnaround Association (‘ARITA’) a person appointed Administrator must as soon as practicable after being appointed make out a Declaration of Independence, Relevant Relationships and Indemnities (‘DIRRI’). The purpose of the DIRRI is to establish the independence of the appointee. In accordance with subsection 436DA(3), the Administrator must circulate a copy of the DIRRI to creditors when he gives notice of the first meeting of creditors.

The first meeting of creditors

Pursuant to subsection 436E(1) of the Act, the Administrator must convene the first meeting of creditors, to be held within eight (8) business days after the administration begins. The purpose of the meeting is to consider:

whether or not to appoint a Committee of Creditors; and/or
to replace the Administrator.

The functions of a Committee of Creditors as per subsection 436F(1), are to consult with the Administrator and to receive and consider reports from the Administrator. The Committee cannot give directions to the Administrator (subsection 436F(2)) except to require the Administrator to report to the Committee (subsection 436F(3)). Furthermore, a Committee of Creditors can approve the remuneration of the Administrator (subsection 449E(1)).

The outcome of the administration

Second meeting of creditors

In accordance with subsection 439A(1) of the Act, the Administrator must convene a second meeting of creditors, such meeting to be held within five (5) business days before or within five (5) business days after, the end of the convening period, which is normally twenty (20) business days beginning on the day after the Administration began. Attached to the notice of meeting will be a copy of the Administrator’s Section 439A report. The purpose of the meeting is to:

decide upon the future of the company by passing a resolution for the company to adopt one of the normal outcomes of the administration set out in subsection 435C(2), which are that;
the company executes a Deed of Company Arrangement (‘DOCA’); or
the Administration should end; or
the company be wound up.

Alternatively and pursuant to subsection 439B(2), creditors can resolve to adjourn the meeting from time to time for a period not to exceed forty-five (45) business days from the date of the second meeting.

determine the remuneration of the Administrator, if it has not already been dealt with by a Committee of Creditors.

In circumstances where it is proposed that employees will surrender their priority status under a DOCA that they would otherwise be entitled to pursuant to sections 556, 560 and 561, then it may be necessary, pursuant to section 444DA, for a separate meeting of eligible employees to be convened in order to pass a resolution approving the priority adjustment. This is most relevant where employees agree to accept payment of their outstanding entitlements in the ordinary course of their employment rather than having them paid out in full under the DOCA.

The section 439A report

When convening the second meeting, the Administrator is required to prepare a comprehensive report to creditors (pursuant to subsection 439A(4) of the Act) that;

1. details the results of his or her investigation into the business, property, affairs and financial circumstances of the company; and
2. sets out the Administrator’s opinions and the reasons for those opinions on each of the alternative courses of action set out above; and
3. provides such other information as will enable creditors to make an informed decision in relation to the potential options regarding the future of the Company; and
4. includes a statement setting out the details of and DOCA that has been propounded.

Voting at the meetings

Pursuant to Corporations Regulation 5.6.19, a resolution put to the vote at a meeting must be decided by majority on the voices (or on a show of hands) unless a poll is demanded. Subregulation 5.6.21(2) states that a resolution is carried under a poll if a majority in number and value of creditors present vote in favour of the resolution. Conversely, Subregulation 5.6.21(3) states that a resolution is not carried under a poll, if a majority in number and a majority in value of creditors present vote against the resolution.

In the event that a resolution is neither carried nor lost, then regulation 5.6.21(4) gives the chairperson the power to determine the outcome by exercising a casting vote either for or against the motion. If the chairperson declines to exercise a casting vote, or votes against the resolution, then the resolution will be lost.

If creditors resolve to wind up the company?

In the event creditors resolve to wind up the company, then pursuant to subsections 446A(1) and 446A(2) of the Act, the company is taken to have passed a resolution under section 491 of the Act that the company has been wound up voluntarily.

In the event that creditors resolve to wind up the company, then pursuant to subsection 499(2A)(a), creditors can seek to appoint a person to be Liquidator for the purpose of winding up the company. If no such appointment is made, then pursuant to subsection 499(2A)(b), the Administrator will automatically become Liquidator of the company.

If creditors resolve that the company executes a DOCA?

In the event creditors resolve that the company executes a DOCA, then pursuant to subsection 444B(2) of the Act, the DOCA must be executed within fifteen (15) business days after the end of the meeting of creditors, or such further period as the Court allows on an application made within those fifteen business days.

For further information in relation to DOCA’s, you are referred to our separate technical guide on the subject, which is available at www.obp.com.au/publications.

If creditors resolve to bring the administration to an end?

In the event creditors resolve to bring the administration to an end, then control of the company simply reverts to the directors.

The role and powers of the administrator

In accordance with section 437A of the Act, while a company is under administration, the Administrator:

has control of the company’s business, property and affairs; and
may carry on the company’s business and manage its property and affairs; and
may terminate or dispose of all or part of the company’s business or property; and
may perform any function, and exercise any power, that the company or any of its officers could perform or exercise if the company was not in administration.

Section 437B states that when performing a function or exercising a power, an Administrator is taken to be acting as the agent of the company.

Pursuant to section 438A, an Administrator must investigate the company’s business, property, affairs and financial circumstances and form an opinion about whether it is in the interests of the company’s creditors for either the company to execute a DOCA, or for the administration to end, or for the company to be wound up.

Section 442A, sets out the additional powers of an Administrator, which comprise:

removing from office a director of the company;
appointing a person as a director;
executing a document, bringing or defending proceedings, or doing anything else in the company’s name or on its behalf;
whatever else is necessary for the purposes of Part 5.3A.

Continuation of trading

As stated above, an Administrator has the power to carry on the business of a company. However the Administrator will only do so if he or she can be satisfied that the continuation of trading is in the interests of creditors. The reasons that would support the continuation of trading are:

the ability of the company to generate a positive cash flow;
to maximize the realisable value of assets such as stock;
to facilitate the sale of the company’s business;
to enable a DOCA to be propounded in the expectation that the return under the DOCA will be greater than if the company was wound up;
the availability of fixed assets to cover trade on debts and expenses.

Pursuant to section 443A, an Administrator is personally liable for debts he or she incurs in the performance or exercise of his or her functions and powers. Section 443D gives the Administrator an entitlement to be indemnified out of the company’s property for debts, liabilities, damages or losses sustained for which he or she becomes liable. The indemnity extends to the remuneration of the Administrator.

The administrator’s remuneration

The remuneration of an Administrator is normally calculated on a time basis using hourly rates set by his or her firm. The actual costs will depend upon the circumstances and complexity of the administration and can only be drawn down once approved. Pursuant to section 449E of the Act, the Administrator’s remuneration can be determined;

by agreement between the Administrator and the Committee of Creditors (if any); or
by resolution of creditors; or
if there is no agreement or resolution, then by order of the Court.

As noted earlier herein, the remuneration of the Administrator would normally be determined at the second meeting of creditors or at any adjournment of that meeting, unless of course the remuneration has already been dealt with by a Committee of Creditors, assuming of course one is in existence.

The effect of the appointment on directors and members

Pursuant to section 437C of the Act, while a company is under administration, company officers cannot perform or exercise a function or power unless the Administrator has provided written approval for the person to so act.

Following the commencement of the administration, each director must deliver to the Administrator all of the company’s books and records in their possession (subsection 438B(1)) and attend upon the Administrator providing such information about the affairs of the company as the Administrator reasonably requires (subsection 438B(3)).

Furthermore, in compliance with subsection 438B(2), the directors must, within five (5) business days after the administration began or such longer period as the Administrator allows, give to the Administrator a statement about the business, property, affairs and financial circumstances of the company.

In so far as members are concerned, pursuant to section 437F, a transfer of shares made after the administration began is void unless either the Administrator gives written consent and any conditions attaching thereto are satisfied, or the Court makes an order authorising the transfer.

The position in relation to personal guarantees

Pursuant to section 440J of the Act, during the administration of a company, a guarantee of a liability of a company cannot be enforced against a director of a company or a relative or spouse of a director, except with leave of the Court and in accordance with such terms (if any) as the Court imposes.

The effect of the appointment on creditors

Section 440D of the Act provides that during the period of the administration, there is a general stay of proceedings against the company or in relation to any of its property. Proceedings cannot be commenced or proceeded with except, with either the written consent of the Administrator or with leave of the Court.

If a creditor holds a charge over the whole or substantially the whole of the company’s property, then pursuant to section 441A, the creditor is able to enforce the charge either before or during the ‘decision period’, which is defined in the Act as the period of thirteen (13) days after receipt of notice of the Administrator’s appointment.

Furthermore, pursuant to section 440C, the owner or lessor of property that is used or occupied by, or is in possession of the company, cannot take possession of the property or otherwise recover it except with the Administrator’s written consent or with the leave of the Court.

The effects of the appointment if a winding up application has been filed

If a winding up application has been filed, then an Administrator can still be appointed. In compliance with subsection 440A(2), the Court is to adjourn the hearing of an application to wind up a company already in administration, if the Court is satisfied that the continuation of the administration is in the interest of creditors. In our experience, there will need to be evidence put before the Court that will lead the Court to conclude there is a real likelihood that a DOCA will be propounded and that the return under the proposed DOCA will be greater than if the company was wound up. If that cannot be done, then it is likely that the Court will order the winding up of the company in which case the administration ends.

Other relevant sections

Section 447A to Section 447E of the Act – Powers of the Court Pursuant to section 447A, the Court has general powers to make such orders as it thinks appropriate. The sections that follow deal with specific powers, namely the protection of creditors (section 447B), the validity of the Administrator’s appointment (section 447C), the ability of the Administrator to seek directions (section 447D) and the supervision by the Court of Administrators (section 447E).
Section 449A of the Act – Appointment cannot be Revoked Section 449A states the appointment of a person as Administrator of a company cannot be revoked.
Section 450E of the Act – Notice of Appointment in Public Documents Subsection 450E(1) provides that a company under administration, must set out in every public document and in every negotiable instrument, after the company’s name where it first appears, the expression ‘Administrator Appointed’.

Conclusion – the benefits of administration

The benefits of a company entering into Administration include the following:

allows immediate action to be taken and sets a fixed time frame for dealing with the issues;
control of the company is given to an independent person;
prevents unsecured creditors, owners and lessors of property from taking action which may adversely affect the value of a company’s business and assets;
allows a company and its creditors to consider the merits of a compromise arrangement which may maximise the return to creditors; and
enables directors in certain circumstances to avoid personal liability for company debts except for debts that have been personally guaranteed.

Directors of companies that are insolvent or are likely to become insolvent should seek immediate professional advice in relation to their specific circumstances. The procedure normally requires consultation and certain investigative work before implementation, particularly when the intention is to carry on the business of the company or where a secured creditor is in existence.

Bankruptcy and other options

1 January 2010 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

This article summarises the basic information conveyed in conference to insolvent individuals (‘debtors’) who, as a means of solving their debt problems, need to decide between becoming a bankrupt or entering into an arrangement with their creditors.

Bankruptcy

Introduction

Bankruptcy is a legally declared inability by an individual to repay debts. The applicable legislation is the Bankruptcy Act 1966 (‘the Act’). It applies to individuals, partnerships, joint debtors and deceased estates. The bankruptcy is administered by a Trustee in Bankruptcy who is either the Official Receiver (a public servant) or a private trustee.

Becoming a bankrupt

There are two ways a debtor can become bankrupt, namely:

Debtor’s petition – Where the debtor presents his or her own petition to the Official Receiver; or
Creditor’s petition – When a creditor presents a petition to the court, a sequestration order may be made against the estate of a debtor.

For a petition to be presented, the debtor will need to have committed an act of bankruptcy, the most common being noncompliance with a bankruptcy notice, and be indebted to the creditor for an amount of at least $5,000.

In the case of a debtor’s petition, the debtor can nominate a trustee as compared with a creditor’s petition where the creditor can nominate a trustee. The role of the trustee is to investigate the financial affairs of the bankrupt; realise all available assets including transactions that may be voidable, and distribute to creditors realised funds in accordance with the Act without undue delay.

The period of bankruptcy

A bankrupt is automatically discharged three years from the date the bankrupt files with the Official Receiver a statement of affairs. However, if the conduct of the bankrupt is unsatisfactory, then the period of bankruptcy can be extended by up to five years upon an objection being lodged by the trustee. Alternatively and at any time before discharge, the debtor can:

seek an annulment pursuant to section 73 of the Act by submitting a proposal to creditors;
seek an annulment pursuant to section 153A of the Act by paying out all creditors in full plus the costs of the bankruptcy; or
in the case of a creditor’s petition, seek an annulment pursuant to section 153B of the Act by making an application to the court.

Consequences of bankruptcy

The main consequences of becoming a bankrupt include the following:

A bankrupt will be recorded on the NPII (National Personal Insolvency Index) for life;
A bankrupt’s credit rating will be affected for seven years;
Creditors are unable to commence or continue any further action for recovery of their debts against the bankrupt;
A bankrupt’s property including after-acquired property will vest in the trustee during bankruptcy and continue to vest with the trustee after discharge if the property remains unsold. Certain property of the bankrupt is excluded from vesting in the trustee;
A bankrupt is required to make contributions from income to his or her estate if the income exceeds prescribed limits;
A bankrupt cannot, without disclosing that he or she is an undischarged bankrupt, obtain credit (including the lease or hiring of goods) for an amount greater than an indexed amount;
A bankrupt cannot carry on business alone or in partnership under a name other than their own unless he or she discloses their real name and the fact that he or she is an undischarged bankrupt;
A bankrupt is allowed to travel overseas but only with the written consent of the trustee. However the bankrupt is required to deliver his or her passport(s) to the trustee;
A bankrupt is disqualified from acting as director and managing a corporation;
On discharge from bankruptcy, the debtor is released from all debts provable in the bankruptcy including secured debts. There are a number of exceptions such as fines imposed by a court and debts incurred by fraud.

Property the bankrupt can retain

The bankrupt is able to retain certain property including:

Property held in trust for another person;
Necessary clothing and household property and such other household property that creditors may resolve;
Items of sentimental value, including awards of sporting, cultural, military or academic nature, as creditors may resolve;
Property that is used by the bankrupt in earning income by personal exertion whose aggregate value does not exceed an indexed value and such other equipment as the creditors may resolve or the court may order;
Property used primarily as a method of transport up to an indexed value;
Subject to certain conditions, life assurance and endowment assurance policies and proceeds from the policies in respect of the bankrupt and the bankrupt’s spouse and the bankrupt’s interest in superannuation policies and proceeds thereof;
Any right of the bankrupt to recover compensation, damages and right of action for the death, personal injury or wrongs to oneself, their spouse or any family member;
Property purchased from the proceeds received from endowment and annuity policies, compensation/damages claims or rural adjustment schemes.

Income contributions

If the debtor receives or is deemed to have received income above indexed amounts, then the debtor is liable to make contributions to his or her bankrupt estate. The definition of income is quite broad and includes income from personal exertion, certain benefits provided by third parties, income from trusts and superannuation funds, loans and so on.

The amount of the contribution is calculated by using the following formula:

Assessed Income – income tax – a statutory threshold amount – child support payments

Arrangements with creditors

There are three types of arrangements that debtors can make with their creditors, namely:

formal arrangement under Part X of the Act;
formal arrangement under Part IX of the Act;
informal arrangement.

Part X – Personal insolvency agreements

Introduction

Part X of the Act offers an alternative to bankruptcy by providing a debtor in financial difficulty with a formal but expensive mechanism to reach a binding arrangement with his or her creditors. The arrangements are individually tailored to suit the debtor’s unique financial circumstances. The debtor is able to negotiate a settlement with creditors that most likely involves the payment of less than 100 cents in the dollar. A typical arrangement will usually provide for money to be paid by the debtor or on account of the debtor either by way of lump sum or by instalments over a certain period of time. The arrangement can also provide for sale of specified assets with the remaining assets to be retained by the debtor.

The process

The provisions of Part X are invoked by the debtor signing what is called a section 188 authority, authorising either a registered trustee, a solicitor or the Official Trustee (who is then referred to as the controlling trustee) to call a meeting of his or her creditors and to take control of his or her property. At the same time, the debtor must provide the controlling trustee with a proposal, including a draft personal insolvency agreement (‘PIA’), and a statement of affairs outlining all known assets and liabilities of the debtor. A PIA takes the form of a deed and must include specified terms as set out in the Act.

The controlling trustee immediately takes control of the debtor’s property and undertakes certain investigations into the affairs of the debtor. In addition, the controlling trustee is required to issue a report to creditors detailing the results of his or her investigations. This report is also required to contain a statement as to whether or not the PIA proposal is in the best interests of creditors.

The meeting to consider the debtor’s proposal must be held not more than 25 working days after the appointment or 30 working days if the appointment was made in December. At the meeting, creditors may resolve by special resolution that the debtor be required to execute a PIA. Under the Act, a special resolution requires 50% in number and 75% in value of creditors present at the meeting voting in favour of the motion. If the proposal for the PIA is not accepted by creditors, then the most common outcome is for creditors to pass two special resolutions: one that the debtor presents a debtor’s petition within seven days, and the other that the debtor’s property be longer subject to control.

In the event that the proposal is accepted by creditors, then the deed must be executed by the debtor and the controlling trustee within 21 days from the day on which the special resolution is passed. Once all the terms of the deed are satisfied, the PIA is terminated. The Act also provides for the termination of the PIA if the debtor defaults on its terms. Alternatively the PIA may be varied. In addition and in specific circumstances, the court may also set aside a PIA and make such orders as it sees fit.

The effect on the debtor

Obviously, on signing a section 188 authority, the debtor will lose control of his property. Control of property that is excluded under the PIA will revert to the debtor on execution of the PIA. In addition and pursuant to subsection 206B(4) of the Corporations Act, a person is disqualified from acting as a director of a corporation if that person has entered into a PIA and the terms of the agreement have not been fully satisfied.

The effect on creditors

The effect of appointing a controlling trustee is that creditors are unable to commence or continue any further action for the recovery of their debts from the debtor until the outcome of a subsequent meeting of creditors is known. The rights of a secured creditor remain intact.

Once the PIA has been signed, creditors, whether present at the meeting or not, are bound by the terms of the PIA and cannot take any action to recover their debts outside the PIA.

Commentary

Unfortunately, entering into a PIA will not be an appropriate alternative for all debtors, especially those with no resources (or access to limited resources) and relatively nominal debt exposure. The main reason for this is that the cost of proposing an arrangement under Part X of the Act can be prohibitive. In this regard, the controlling trustee is obligated to carry out the tasks detailed earlier herein and will incur significant time charge in doing so. As there is no guarantee that the proposal will be accepted by creditors, the prospective controlling trustee will normally seek a cash advance (or some other form of security) to meet his estimated costs in acting in that role. Furthermore, the debtor will need to fund the cost of preparing a formal deed setting out the provisions of the arrangement.

In considering whether or not to put a proposal to his or her creditors, a debtor should also take into account the likelihood of the proposal being accepted, bearing in mind that under the Act a special resolution is required being 50% in number and 75% in value of creditors voting on the motion. From experience, we have found that some creditors will vote against a proposal on the basis of policy, notwithstanding the commerciality of the proposal.

Nevertheless, entering into a PIA does have its advantages, some of which are summarised hereunder:

The debtor avoids the stigma of bankruptcy;
A PIA provides for the flexible administration of the debtor’s affairs including the opportunity to carry on business, which is difficult for an undischarged bankrupt;
The execution of a PIA avoids court process;
The return to creditors under the PIA is invariably greater than that if the debtor was made bankrupt;
Subject to the terms of the PIA, there is no requirement to contribute after-acquired property or income;
The PIA will normally terminate within the short to medium term.

Part IX – Debt agreements

Part IX of the Act provides another alternative to bankruptcy by providing debtors who have a relatively low income, minimal assets and low debt levels with an inexpensive mechanism to reach a binding arrangement with their creditors to release them from their debts. This part of the Act is only available to be utilised by those debtors who have:

not, within the previous ten years, been bankrupt, a party to a debt agreement or given an authority under section 188 of the Act;
unsecured debts that are below the specified threshold amount;
property, which would be divisible among creditors in a bankruptcy, that is below the threshold amount;
after tax income that is below the adjusted threshold amount in the year beginning at the proposal time.

The current threshold amounts are set out in the table below.

Unsecured debts	$92,037.40
Property	$92,037.40
After Tax Income	$69,028.05

The process

To initiate a debt agreement, a debtor must give the Official Receiver a proposal for a binding agreement between the debtor and his or her creditors. Any such proposal must be in the approved form and identify the property to be dealt with under the agreement; specify how it is to be dealt with; and authorise the Official Receiver, a registered trustee, or another person, to deal with the property as specified.

The proposal must be accompanied by a statement of the debtor’s affairs. If the proposal is accepted by the Official Receiver, the Official Receiver must write to creditors asking them whether the proposal should be accepted. The proposal is accepted if the majority in value of creditors who reply state that the proposal should be accepted.

The debt agreement ends when all the obligations that it created have been discharged. At that time the debtor is released from all debts that would be provable in a bankruptcy. This release from debts will not occur if the debt agreement is terminated by the debtor, creditors or the court, or if the debt agreement is declared void by the court. The Act also provides a mechanism to vary a debt agreement.

The effect on creditors

All creditors with provable debts are bound by the debt agreement, even those who voted against the proposal. While the debt agreement is in force, creditors cannot take or continue action against the debtor for recovery of their debts. A debt agreement does not affect the rights of a secured creditor to realise or otherwise deal with the creditor’s security.

Commentary

Readers requiring further information about the administration of debt agreements should access the web site maintained by the Australian Financial Security Authority at https://www.afsa.gov.au/.

Informal arrangement

An informal arrangement is simply an arrangement not made under the Act that a debtor makes with his or her creditors to settle his or her debts. Normally an adviser such as the debtor’s accountant would firstly write to creditors summarising the debtor’s financial position and putting forward a settlement proposal. Follow up contact by either the debtor or the advisor is recommended, with the aim of addressing any concerns creditors may have and reinforcing the benefits of the proposal. Preferably any agreement reached with creditors should be documented by way of deed.

Informal arrangements are more likely to proceed in circumstances where there are a small number of creditors involved and some goodwill still exists between the parties. The difficulty is that just one hostile creditor can make the arrangement unworkable.

When the grim reaper comes knocking

1 January 2010 by By Lawyers

By O’Brien Palmer

INSOLVENCY AND BUSINESS ADVISORY

First published on the website, www.obp.com.au

‘There is always death and taxes: however, death doesn’t get worse every year’– author unknown

Based upon our recent experiences, it would appear that the Australian Taxation Office (‘ATO’) is becoming much more aggressive in relation to the collection of overdue PAYG and taxes. More particularly, we have:

noticed an increase in the number of winding up applications filed by or on behalf of the ATO.
been provided with copies of notices issued by mercantile agents engaged by the ATO to recover debts that had only recently become overdue.
met with directors who have been served with a Director Penalty Notice (‘DPN’) pursuant to Section 222AOE of the Income Tax Assessment Act.

This aggressive attitude adopted by the ATO will in all probability impact adversely on thousands of Australian businesses already suffering from poor cash flow.

According to an article which appeared in The Australian newspaper on 20 May 2010, credit reporting agency, Dunn & Bradstreet, has reportedly downgraded the risk profiles of almost 80,000 companies after watching payment terms deteriorate in the first quarter of this year. The expectation is that many of those businesses are now more likely to experience financial distress over the next year.

In light of the foregoing, we thought it timely to comment upon the weapons in the ATO’s arsenal for the recovery of taxation liabilities owed by corporate debtors.

Director Penalty Notices

A discourse on DPN’s is outside the scope of this newsletter. Suffice to say that a director in receipt of a DPN has fourteen days from the date of the notice in which to cause the company to undertake one of the following alternative courses of action:

discharge the debt in full, or
enter into an arrangement with the ATO for the payment of the debt, or
appoint an Administrator or Liquidator to the company.

If the director(s) fail to comply with the DPN by not causing the company to undertake one of the alternatives set out above within the specified time period, then each director is liable to pay by way of penalty an amount equal to the unpaid debt.

The DPN is a powerful weapon that should focus the attention of the directors on addressing the problems affecting the financial position of their company. Directors who neglect to deal with a DPN could face personal financial consequences that could be significant. Yet notwithstanding this, we have encountered a number of directors who for a variety of reasons have ignored a DPN whilst others have convinced themselves as to the viability of their businesses and accepted personal liability totally ignoring the advice of their accountants and/or solicitors. We do not monitor what later happens to those that we meet, however in some cases it has been brought to our attention that the outcomes have been disastrous for those concerned.

It is therefore vital that directors maintain a working knowledge of the financial position of the company under their control particularly when it comes to cash flow and the incurring of taxation and other liabilities. The reality is that a company under financial stress will often defer payment of taxation liabilities thus preserving cash for other outgoings considered more vital. This approach may well ease cash flow constraints short term. However, the unpaid taxation liabilities remain and will continue to accrue. In our experience, directors who proactively seek to address the problem in a timely and considered manner are likely to achieve a more satisfactory outcome as compared to those who seek to find a solution under direct pressure from the ATO.

Statutory Demands

Like any creditor, the ATO can issue a Statutory Demand under Section 459E(2)(e) of the Corporations Act (‘the Act’) for payment of a debt within 21 days after service. The debtor company must within the time period specified either pay the debt in full or make an application to the Court to have the demand set aside pursuant to Section 459G of the Act. Alternatively, the debtor company can take pre-emptive action by:

appointing an Administrator. Such an appointment is normally made in circumstances where there is some prospect of a Deed of Company Arrangement (‘DOCA’) being propounded; or
appointing a Liquidator to wind up the affairs of the company.

If no action is taken by the directors in response to the Statutory Demand, then almost certainly the ATO will commence winding up proceedings.

There are many and varied reasons why directors fail to respond to a Statutory Demand. In many instances, the companies in question will have ceased to trade and have no assets in which case the directors will often not care if the company is liquidated. Other companies will be trading and have assets. It is not uncommon for directors of these companies to simply ignore the Statutory Demand by putting it into the ‘to-hard basket’. For others, the Demand may not be received. One reason for that might be the failure by the Company to notify ASIC of a change in the address of its registered office.

Winding Up Proceedings

The serving of a winding up summons will certainly focus the attention of the directors especially if the business conducted by the company is considered to be viable. In these circumstances, the directors will urgently seek advice as to their options under the Act. By that stage, the options are not what they were.

One option might be to attend Court and oppose the application to wind up. However, as the Statutory Demand has expired, there is a presumption of insolvency pursuant to Section 459C(2)(a) of the Act. Therefore, if the directors want to oppose the application, then they will have to satisfy the Court that the company is in fact solvent and that there is some compelling reason why it should not be wound up. Proving solvency can be difficult and the process is likely to be costly.

The directors may consider they have the option of pre-empting the ATO by appointing their own Liquidator. However, pursuant to Section 491 of the Act, a company cannot be wound up voluntarily if an application has been filed to wind up the company in insolvency. Therefore this is not an option available to the directors.

Another option available to the directors is to appoint an Administrator to take charge of the affairs of the company. Whilst technically possible, there is a complication. Pursuant to Section 440A of the Act, the Court is to adjourn an application to wind up a company already in administration, if the Court is satisfied that the continuation of the administration is in the interest of creditors.

The complication arises from the interpretation of the phrase ‘the Court is satisfied’. In our experience, this means that there will need to be evidence put before the Court that will lead the Court to conclude there is a real likelihood that a DOCA will be propounded and that the return under the proposed DOCA will be greater than if the company was wound up. From a practical point of view, it is not always possible to settle upon the likely terms of a DOCA within the time left before the winding up application is heard. In addition, the costs of attending Court and presenting a case can be significant.

In light of the foregoing, it is imperative that Statutory Demands are dealt with within the stipulated time period as this keeps all options open to the debtor company thus giving it the best chance of achieving an optimum outcome.

In the event a company is wound up by order of the Court, then all is not lost. Pursuant to Section 482 of the Act, the Court has the power to stay or terminate the winding up. For such an order to be made, the applicant which is usually the directors, will need to satisfy the Court that the company is solvent and should be allowed back into the market place.

Section 260-5 Notices

Another weapon available to the ATO is the issuance of a notice (commonly referred to as a ‘garnishee’) pursuant to Section 260-5 of the Income Tax Assessment Act which allows the ATO to collect monies from third parties in satisfaction of taxation liabilities due by other entities.

We dealt with this subject matter in a newsletter issued in April 2006, a copy of which can be found on our web site. For the purposes of this newsletter, all we can state is that we have not encountered any such notices over recent times.

Conclusion

The team at O’Brien Palmer is committed to assisting our contacts help their clients understand and navigate the complex realms of insolvency. As part of that commitment, we would be pleased to answer any of your questions regarding our services. We also offer a complimentary and obligation free initial consultation to establish the nature of the problem and the manner in which we can be of service.