RSM Australia

Insolvency Reform Edition 17 | The Sequel 10 Years in the Making: Protecting Employee Entitlements - July 2018

This article discusses proposed reforms to strengthen the protection of employee entitlements and asks if the proposed reforms will make it through Parliament in their current form.

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Are we serious about Insolvency Law Reform?

It seems the statute books are littered with legislation that does not achieve what it was intended to achieve. Some legislative efforts in insolvency law reform to address unwanted activities, or conduct give the appearance of doing something, but do nothing at all.

One classic example of this is Division 4A of Part VI of the Bankruptcy Act 1966. This was a regime whose origin can be traced to the infamous Costigan Commission of the 1980s and bottom of the harbour tax schemes then rampant in some Insolvency Law Reform sectors. Division 4A was aimed at ensuring creditors have access to property acquired by a third party because of a bankrupt’s efforts within 5 years of the commencement of bankruptcy. This has been on the books since 1987. In the 30 years only one partly successful case has been reported. A fix was proposed in 2004, however the Government of the day succumbed to intense lobbying by nearly the entire business community and their advisers.

Protecting Employee Entitlements

To date legislative efforts to protect employee entitlements have proved to be not fit for purpose.

The last effort Part 5.8A was inserted into the Corporations Law as it was then known by The Corporations Law Amendment (Employee Entitlements) Act 2000 (“the 2000 Act”). Yes, 18 years ago. The 2000 Act created an offence where a person enters into a transaction with the intention of depriving employees of their entitlements. A liquidator may recover compensation from a person for the loss caused by the person by committing the offence. The 2000 Act also amended Part 5.7B of the CA deeming an uncommercial transaction to be a debt for the purposes of an insolvent trading claim.

The 2000 Act was the Government response to the community concerns raised because of transactions undertaken before the Patricks Stevedores dispute. The actions resulted in the employer companies being unable to fund wages and entitlements of employees.[1]

The deficiencies in the 2000 Act were highlighted to the Howard Government during the passage of the legislation through the Parliament. [2] To establish the offence there is a requirement to prove a person’s subjective intention was to prevent or significantly reduce the recovery of employee entitlements in both criminal or civil proceedings. Further it is not a civil penalty provision. There have been no reported prosecutions or recovery actions from the use of these provisions.

The deeming of an uncommercial transaction to be a debt incurred has apparently had little success in producing recoveries from persons engaged in phoenix activities. The liquidator is still required to prove insolvency at the time of the transaction. Transfers of assets by a company at less than market before it becomes insolvent remain protected. Contrast this with personal bankruptcy.


What has changed?

Treasury has released for consultation an exposure draft of the Corporations Amendment (Strengthening Protections for Employee Entitlements) Bill 2018 (“the ED”). The ED appears to be a serious effort to address the deficiencies identified in in Part 5.8A of the Corporations Act 2001 (“the CA”).

The ED addresses the main concerns identified with Part 5.8A. The civil recovery provision is separated from the criminal offence.  An objective test is introduced for a civil recovery action. A civil penalty provision is also introduced. There is no requirement to prove insolvency at the time of the transactions.

The scope of the proposed provisions is very broad. Entitlements need not be specifically owed to employees. Deductions made from an employee’s entitlements to be paid to third parties and entitlement rights assumed by third parties including the Commonwealth by statute or contract retain their status as employee entitlements for the purpose of the new provisions.


Criminal OffenceInsolvency Law Reform

An offence occurs if a transaction is entered with the intent or intentions including that intent to:

  • prevent the recovery of entitlements of an employee of a company; or
  • significantly reducing the amount of the entitlements that can be recovered.

The criminal offence is longer expressed in the negative. The intention need not be dominant. The intention may be a minor part of a different primary intention. The fault element is extended to circumstances where a person is reckless as the effect of the transactions.

The company owing the employee entitlements does not need to be a party to the transaction, or agreement for the contravention provision to apply. The contravention provision may apply to a transaction, or agreement approved by a Court. The entering into of the agreement, or transaction contravenes the provision, even if no employee entitlements are avoided.

Transactions, or agreements entered into because of a deed of company arrangement will not contravene the provision.


Civil Recovery

Contravention is determined by what a reasonable person would have known or been expected to have known about the effect of the transactions in question. This is an objective test.

The provision is contravened by a person if:

  • an agreement or transaction is entered by them; and
  • the person knows or a reasonable person in their position would know the agreement or transaction is likely to or would: 
  1. ​prevent the recovery of entitlements of an employee of a company; or
  2. significanty reducing the amount of the entitlements that can be recovered; and
  3. after the transaction or agreement is entered into the company enters liquidationInsolvency Law Reform

The provision is a civil penalty provision. A person may be liable to compensate the company because of the transaction or agreement. Compensation may be payable by a person even if already convicted of an offence or if the person has had a declaration of contravention and a pecuniary penalty order made against them.

The company’s liquidator may commence proceedings for compensation payable for contravention of the provision. The compensation is payable to the company and will be equal to the loss suffered by employees because of the transaction, or agreement being entered. The maximum loss is the total of outstanding employee entitlements.

An employee can commence recovery action in certain circumstances for loss or damage suffered. The compensation will be a debt due to the employee.

In addition to employees the following parties are also empowered to commence actions for recovery of compensation for the contravention:

  • the Commissioner of Taxation;
  • the Fair Work Ombudsmen; and
  • the Secretary of the Department administering FEG.

Contribution orders

The ED introduces the concept of contribution orders. These orders will be made by a Court. The orders will allow recovery of unpaid employee entitlements of insolvent corporate group members from other members of the corporate group in certain circumstances.

The application to a Court for a contribution order may be made by:

  • the liquidator;
  • the Commissioner of Taxation;
  • the Fair Work Ombudsmen; and
  • the Secretary of the Department administering FEG.Insolvency Law Reform

The Court will be able to make contribution order where:

  • it is just and equitable; and
  • the other entities have benefitted from the labour of the employees of the insolvent entity on other than arm’s-length terms.

The Court will have significant flexibility to determine:

  • the members of a contribution order group
  • the contributing entities
  • the amount to be contributed by the contributing entities; and
  • whether it is just and equitable to make the order.

If things don’t change they will probably stay the same.

The ED suggests the Departments of Treasury and Small Business and Jobs are serious about insolvency law reform on this topic. However, as always, the proof will be in the eating. The utility of the legislative change proposed can normally be determined by the noise generated in the submissions opposing them. I think there will be some noise here. We are talking about a further piercing of the corporate veil to attack both directors and members of corporate groups.

Will the Government buckle to the anticipated heat from the submissions of various interest groups whose intent will be to gut the utility of the proposed reforms? With the smell of an election in the air will these reforms even if they get past exposure draft stage have any chance of being considered by the parliament in its current term?

What do you think?

If you have any questions in relation to this article, please contact you local RSM adviser or David Kerr.

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[1] Helen Anderson, The Protection of Employee Entitlements in Insolvency an Australian Perspective, (Melbourne University Press, 2014) 19-20.

[2] Ibid 38-45.