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Small Business Insolvency Reforms

Wednesday 27, Jan 2021

On 10 December last year, the Federal Government urgently passed numerous amendments to the Corporations Act[1] that became effective on 1 January 2021. The reforms are designed to assist with the economic impacts of COVID-19 on small businesses across Australia, and to replace the temporary COVID relief measures with respect to statutory demands and insolvent trading by directors.

There are two new concepts added to the Corporations Act:

  • Small Business restructuring; and
  • Simplified liquidation.

According to the Explanatory Memorandum issued by Treasurer Josh Frydenburg, both new concepts are intended to reduce the costs of external administration for small businesses and the compliance burden for insolvency practitioners, helping more businesses remain viable and improving the returns to creditors and employees when the business is unviable.”

Whilst these reforms try to address the previous “one size fits all” nature of the insolvency laws in Australia, I am not certain that they are sufficiently simple enough to attract the attention of those small businesses who may use them, nor their professional advisers.  Moreover, the eligibility criteria for a company to enter into a restructuring or a simplified liquidation appears to exclude many participants who would benefit from the scheme.

The changes to the Corporations Act, its Regulations and the Insolvency Rules are yet to be incorporated into the legislation, and prescribed forms are yet to appear.  Legal and accounting advisors are now juggling with numerous bits of new legislation to determine whether they will even help their small business clients.
 

Small Business Restructuring - overview

This appears to be a pared-back version of a formal voluntary administration for a company. The principal eligibility criterion is that the debts owed by the company total less than $1mil (excluding related creditors).

An independent “small business restructuring practitioner” (SBRP – yes, another acronym) is appointed by the directors, who then has 20 business days to submit a restructuring proposal to the company’s creditors.  Those creditors then have 15 more business days to accept or reject the proposal.  Once accepted, the SBRP must manage the distribution of funds to creditors, and in the meantime, no action can be taken against the company or its directors until the restructuring plan is completed. The directors of the company are however in control of the “ordinary course of business” for the company, hence it has been referred to as a “debtor in possession” model, which differs from any of the traditional insolvency regimes.

 

Small Business Liquidation - overview

Again, this regime only applies to companies that owe less than $1mil to creditors.  The process reduces the investigative functions of the liquidator and the circumstances within which unfair preference payments may be clawed back from creditors. The theory is that this will reduce the costs incurred by liquidators, and maximize the return to creditors.

 


Small Business Restructuring

Who can be a Small Business Restructuring Practitioner?

The SBRP must be a liquidator registered with ASIC.  An appointment of someone who is not a registered liquidator constitutes an offence. Given that the SBRP must certify the restructuring plan, hence putting his/her professional indemnity insurance policy on the line, I have no issue with this restriction.

Like the traditional insolvency appointments, the SMRP also must provide the company and creditors with a declaration of relevant relationships with the company, its directors, members and advisers, to confirm the SMRP’s independence.

Interestingly, the SBRP cannot be removed by a vote of the creditors. A Court has such a power though.

Nature of Model

This is a “debtor in possession” model.

A moratorium exists on creditors’ claims whilst the company and SBRP formulate and implement a debt restructuring plan.

It is intended to be more appropriate to small business as Voluntary Administrations are seen to be too expensive for small businesses, and hence they don’t bother until it is far too late.  That is certainly my experience.

Eligibility

To be eligible to be restructured under this scheme, a company must be insolvent or likely to be insolvent before appointing a SMRP. The appointment deems the company to be insolvent in any case.

Total liabilities owed by the company must be less than $1mil, excluding related party creditors.

A company is not eligible to use the debt restructuring process if a director has previously used the process or the simplified liquidation process in this or any other company in the previous 7 years. This will prevent corporate groups being “restructured” over an extended time. Instead, they must be restructured all within 20 business days of each other to be exempt.

All employee payments must be paid in full, and all tax lodgements up to date before a plan could be put to creditors.  In my 30+ years of insolvency experience, I do not recall a single corporate insolvency where the debts owed were less than $1mil, all employees were already paid in full and all tax lodgements were current.  Are we therefore looking at a unicorn?

Time frames

Upon the appointment of the SBRP by a resolution of the Board of the company, the company and SRBP have 20 business days to develop a restructuring plan to restructure the company’s debts and send the plan to creditors. All public documents of the company then have to refer to it as “(restructuring practitioner appointed)”.

Creditors then have 15 business days to vote on the restructuring plan.

A restructuring plan will need to provide sufficient information so creditors can decide whether to accept or reject the plan. I am not anticipating that SRBPs will cut corners on the information to be provided to creditors, since that could expose them to personal liability.  This is the old conflict between ensuring creditors get sufficient information vs spending too much time to provide it.

Creditor rights

A moratorium will apply against the recovery and enforcement of all unsecured creditors’ claims, and limited kinds of secured creditor claims, during the restructuring plan period.

Court and enforcement proceedings are either stayed or cannot be begun without the Court’s or SRBP’s consent.

Does a creditor have to continue to supply goods or services to a company that is subject to a reconstruction plan? Of course not.  And even if a creditor chooses to do so, it is likely to be on COD or even a money-up-front basis. And you can only receive such a payment with the SBRP’s consent. A creditor cannot however terminate their contract (eg terminate a lease) merely because the company is under restructuring. This is another extension of the existing “ipso facto” rules applying to company Administrations. This prevents creditors from pulling the contractual pin on the debtor company, at a time when the company probably needs to be able to continue to trade.

What must be in a restructuring plan?

The Corporations Regulations prescribe the content of a restructuring plan, including the requirement that all admissible debts rank equally, and, unless paid in full, will be paid proportionally. No surprises there.

There is no limitation put on the time within which a restructuring plan must be implemented.

Voting on a restructuring plan

Firstly, there are no formal meetings of creditors required, although they can be convened by the SBRP.  The creditors simply vote (electronically) on the plan proposed – via a Zoom call for instance - or use a circulating resolution.

For a restructuring plan to be accepted by the creditors, and to be binding upon them, a vote of more than 50% of the creditors in value is required. Once the vote is passed, it is binding on all the creditors.

Related party creditors are excluded from voting. This will prevent those such as directors, family and related companies from potentially controlling the outcome, which is possible in the more traditional Administration process.

If a restructuring plan is not accepted by the creditors, the company can then be placed into Administration or Liquidation via the usual methods.  There is no automatic transition into any of those regimes.

Important transitional matters

Between March and December 2020, the Corporations Act was amended to:

  1. Increase the amount of a debt for which a Creditor’s Statutory Demand (CSD) could be issued for from $2,000 to $20,000; and to extend the time to comply with a CSD from 21 days to 6 months; and
  2. allow directors to incur trading debts in the ordinary course of business of the company without incurring a liability for insolvent trading.

These new amendments now apply those provisions for companies that notify ASIC that they intend to commence a restructuring plan between 1 January and 31 March 2021.  They don’t have to have already implemented such a plan, they just need to “intend to”. This is meant to provide companies and their advisers with time to familiarise themselves with the new scheme. If a company files a notice of its intention to access the restructuring process to its creditors on ASIC’s publication website, then the previous extensions will continue. This transitional measure is only available until 31 March 2021. Any notice published prior to then is valid for 3 months.  If no SBRP is appointed in those 3 months, or no intention to do so is lodged with ASIC by 31 March 2021, the previous laws regarding CSDs and the insolvent trading liability of directors will be restored. The relevance of this important arrangement is that a creditor (or more likely their lawyer) now needs to search the ASIC publication website to ensure that no notice of the requisite intention has been lodged by the debtor company before issuing a CSD.  Mind you, that will not prevent a company from implementing a restructuring plan upon receipt of a CSD anyway.

 


Simplified liquidations

The amendments to the Creditors’ Voluntary Liquidation (CVL) provisions create a simplified CVL, intended to reduce the costs of liquidation for eligible small businesses, with a view to increasing potential returns to creditors. It appears to be essentially a CVL without:

  • the investigations required in a Section 533 report to ASIC;
  • formal meetings of creditors; and
  • Committees of Inspection.

The new Corporations Regulations also restrict the recovery of unfair preference payments to only those transactions whereby the creditor received more than $30,000 and it was received at a time that is less than 3 months before the relation back date.

Eligibility

The eligibility requirements for a company to be able to enter a Simplified Liquidation process are mostly the same as apply to the Small Business Restructuring scheme:

  1. The company must be insolvent.
  2. Liabilities must be less than $1 million.
  3. No director of the company has been a director of any company that has previously used the simplified liquidation process or a debt restructuring process (which should reduce “Phoenix company” activity by the director).
  4. The company’s tax lodgements are up to date.

As I mentioned, a company that was insolvent, owed its creditors less than $1mil and had all its tax lodgements up to date was very rarely seen in the insolvency industry.  I don’t know why that will change merely because this legislation is now in place.

Time to implement

If the company members have already appointed the liquidator, but more than 20 business days have passed since that appointment, then the simplified liquidation process is not then available to be implemented. A liquidator must also give creditors at least 10 business days’ notice before adopting the simplified process. So again, the implementation process is meant to be quick.

75% majority required to implement

If more than 25% in value of creditors request the liquidator not to follow the simplified liquidation process, then it cannot be implemented.

 


Conclusions

Whilst these amendments provide a quicker and cheaper alternative for small businesses to restructure their debts and their businesses, the question is really whether the directors and their advisers will consider those savings to be sufficient.  The directors, and their advisers, will then need to be fully across the amendments, and the very limited periods of compliance which they require.

One cynical view is that these amendments have been implemented as a way to get companies to file their tax lodgements with the ATO in a timely manner.  In almost every liquidation I have encountered over the decades, the company has not lodged its PAYG, BAS and other statutory lodgements on time. Most are horribly out of date.  The usual effect of lodging tax documents is that tax of some kind becomes payable. The government will assert that these provisions now permit small businesses to address their debt positions sooner than they were previously able to.  That’s true, but I disagree that it will significantly change anything. The directors who stuck their collective heads in the sand in the past will continue to do so. Sadly, that is standard behaviour for some small business operators under financial pressure.

In my experience, these new regimes will have limited application in the economy, despite the number of small businesses that exist in Australia.  The changes are however worth considering for those small businesses coming out of 2020 feeling very financially battered and looking for a simpler solution to keep their business alive, or where necessary, to bury them in a simple, cheap way. Just don’t leave it too late.

 

Mark Addison

Keypoint Law

© January 2021

Disclaimer

This article is for general information purposes only and does not constitute legal or professional advice.  It should not be used as a substitute for legal advice relating to your particular circumstances.  Please also note that the law may have changed since the date of this article.  If you have questions or need any further assistance please contact our office: Mark Addison, Consulting Principal, Keypoint Law Pty Ltd, mark.addison@keypointlaw.com.au (02) 8035 5200

 

[1] Corporations Amendment (Corporate Insolvency Reforms) Act 2020