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    New Legislation: Combating Illegal Phoenixing

    Mar 19, 2020 5:08:00 PM

    On 17 February 2020 the Treasury Laws Amendment (Combating Illegal Phoenixing) Bill 2019 received royal ascent.

    This piece of legislation had been before the houses of parliament for close to 9 months and the contents had been talked about in insolvency and corporate circles for over 2 years.

    The legislation is aimed at combatting Illegal Phoenixing, which is the process of deliberately asset stripping a company, for below market value, leaving nothing for the creditors. This practice has been rampant and a real blight on the insolvency industry.

    There are 4 key changes which the legislation introduces which are likely to have a dramatic impact on the insolvency landscape as well as directors of small to medium businesses. They are:

    1. Creditor Defeating Dispositions;
    2. Director Resignations;
    3. DPNs for GST, Wine Equalisation Tax and Luxury Car Tax; and
    4. Retention of tax refunds.

    This article is part 1 of 2 and will unpack the largest amendment being Creditor Defeating Dispositions. Part 2 will unpack Director Resignations, DPNs and Retention of Tax Refunds.

    Creditor Defeating Dispositions - s 588FDB

    The new legislation introduces new offences to prohibit creditor defeating dispositions of company property, penalties for those who engage in or facilitate such disposals, as well as allowance for liquidators and ASIC the ability to recover such property or assets.

    The law came into effect on 18 February 2020 and established an additional type of voidable transaction, which is the transfer of company assets for less than market value (or best price reasonably obtainable).

    Obviously the key to this is understanding what the fair market value is or the best price reasonably possible. Fair market value means the price that would be paid in a hypothetical transaction between a seller and a buyer at arm’s length who is knowledgeable and willing. This may not be possible depending on the trading conditions of the company selling the assets, such as a company with cash flow problems. In this instance the circumstances of the company at the time of the disposal and leading up to the disposal of the asset are critical.

    For a transaction to be caught by these provisions, the transaction must be made when:

    1. the company is insolvent and within 12 months before the relation back day and the day the winding up began; or
    2. the company immediately becomes insolvent as a result of the transaction and within 12 months before the relation back day and the day the winding up began; or
    3. the company enters external administration within the following 12 months.

    It is critical to note that even if at the time the transaction was made the company was solvent, if the company becomes insolvent 11 months later and enters into administration, this may expose a transaction that occurred 11 months earlier.

    Warning to Accountants, Advisors and Lawyers!

    Not only are company directors impacted, but the new legislation has expanded the list of people who can face civil and criminal penalties.

    Section 588GAC makes it clear that a person must not engage in conduct of procuring, inciting, inducing or encouraging the making by a company of a disposition of the property the subject of a possible creditor defeating disposition.

    The warning for accountants and advisors is in 588GAC(2)(b) where it makes it clear that a person must not engage in the conduct if the the person knows, or a reasonable person in the position of the person would know, that the disposition is a creditor-defeating disposition.

    It is very likely that an accountant or advisor would be a reasonable person who would know. If this is the case then accountants and advisors will most likely find themselves joined to recovery proceedings or facing civil or criminal penalties from ASIC.

    What are the defences?

    Under the legislation the defences are in line with the standard voidable transaction defences. However these do not apply if the basis is that the company entered external administration within 12 months from the transaction.

    Further to the above defence, the best defence by far is the Safe Harbour legislation under 588GA or the appointment of an external administrator. The Safe Harbour sections allow a company, who may be insolvent or close to insolvent, to engage a Safe Harbour expert, usually a lawyer or a liquidator, to review the company and work with the director(s) to put together a turnaround plan or place the company into administration. Under the legislation, if the disposal of the asset occurs under a proper safe harbour appointment then that disposal is protected.

    Case Study

    We were recently appointed as a Safe Harbour Expert to assist a company with a cashflow/debtor problem. We have worked with the director to develop a plan to ‘turnaround’ the business to ensure that the company doesn’t trade whilst insolvent or takes all reasonable steps to avoid trading whilst insolvent. This process included the disposal of motor vehicles as well as a restructure of employees.

    By the Directors appointing us as the Safe Harbour Expert, the plan could include quick disposals of motor vehicles which may be below the fair market value but due to the circumstances and Safe Harbour are protected from creditor defeating disposals.

    Key Takeaways

    1. Accountants and business advisors need to engage a qualified insolvency lawyer to advise the Directors of a struggling business. This will add a layer of protection to the accountants and advisors, as well as the director(s).
    2. Safe Harbour needs to be considered as a default option and the appointment of a Safe Harbour Expert should now become common practice.
    3. Directors and accountants need to be very careful as to what they sell, who they sell to and for how much. Transactions should now be recorded by agreements, invoices or contracts rather than simple transfers of funds and titles.
    4. Corporate Governance is extremely important. Minutes of meetings and resolutions need to be kept to protect both the Director as well as the advisors.

    If you have further questions please contact us at frank@franklaw.com.au. 

    This is not legal advice.