The Government has proposed radical change to combat the estimated $5.13 billion annual cost to the economy of illegal phoenix activity. The draft legislation targets directors and enablers of this activity. An expansion of director penalty regime to include GST is also proposed.
The first shots have been fired by the Government in their effort to combat illegal phoenix activity. Draft legislation to tackle illegal phoenix behaviour has been released for consultation. The Exposure Draft is titled the Treasury Laws Amendment (Combatting Illegal Phoenixing) Bill 2018 (the Phoenix ED”). The Phoenix ED seeks to protect workers and honest businesses by creating a level playing field.
Phoenix activities can be described as the deliberate stripping and transfer of a company’s assets to a third party to avoid paying the company’s debts. The activities are undertaken by directors with the assistance of enablers including pre-insolvency advisers, lawyers, accountants and insolvency professionals.
The Government’s Phoenixing Taskforce estimates its cost to the Australian economy as between $2.85 billion and $5.13 billion annually.
Another voidable transaction
A central element of the Phoenixing ED is the creation of a new voidable transaction called a creditor-defeating disposition (“CDF”). This is a disposition of property that prevents, hinders or significantly delays the property becoming available to creditors in a winding up. It may extend to a right or interest created in the property. The concept of a disposition is extended to reflect the economic substance of a transaction.
Voiding a CDF
A transaction will be voidable as a CDF if it is made at the time the company is insolvent, or because of the transaction immediately becomes insolvent, or enters external administration within the following 12 months.
The court may make a variety of orders to void the transaction and return the parties to the transaction to their respective positions before the transaction upon the application of a liquidator.
The application can be made before the later of:
- 3 years after the relation back day; or
- 12 months after the liquidator is appointed.
No additional presumptions of insolvency are proposed to assist liquidators establish insolvency against third parties even if related parties.
A welcome and major change is included in the Phoenixing ED. Liquidators will no longer be required to bear the onus of establishing insolvency at the time of creditor defeating transactions entered within 12 months before the commencement of the external administration.
Defences to a CDF
In addition to the usual voidable transaction defence of “market value consideration” defences in the Phoenixing ED includes transactions:
- Made in accordance with a deed of company arrangement; or
- Made by a liquidator; or
- Made in connection with a course of action forming part of a safe harbor defence.
Market value is the price that would be paid in a hypothetical transaction between a knowledgeable and willing, but not anxious, seller to a knowledgeable and willing, but not anxious, buyer, who transact at arm’s length. Market value is assessed at two times. When the agreement is entered and when the property is transferred. The consideration must exceed the market value at one or both times if tested to satisfy the defence. The recipient of the property bears the evidential burden to establish market value was paid.
Good faith is not available as a defence. However, a good faith test applies to subsequent purchasers for value. Even if market value is paid for a subsequent transfer if the purchaser acted in bad faith the transaction will also be voidable.
ASIC will be empowered to make administrative orders to recover property the subject of a CDF. The order may be made at ASIC’s own initiative or at the request of a liquidator. The orders may be made against subsequent beneficiaries of property or assets. A person must either comply with the order or apply to set it aside. Failure to comply with an administrative order is an offence.
Attacking the enablers
The Phoenixing ED targets the company officers and enablers with both offences and civil penalty provisions.
The Phoenixing ED also targets dodgy activities by company directors seeking to exit the crime scene. The resignation of a director reported greater than 28 days after the date of the purported resignation will take effect on the day it is reported to ASIC. A director may not resign if so doing will leave the company without a director. Members of a proprietary company may not remove a director if so doing leaves the company without a director.
Expansion of the director penalty regime and retention of tax refunds
Perhaps the most radical change proposed by the Phoenixing ED is the extension of the estimates regime and the director penalty regime to GST, LCT and WET.
The Australian Taxation Office ("ATO") will be empowered to retain a tax refund when a taxpayer has failed to provide all outstanding information, or lodgements to the ATO.
Restriction of voting rights for related creditors
It is proposed related creditors who have been assigned a debt will have their voting rights restricted on certain matters. A related creditor will only be able to vote for the value of the consideration given for the assignment of the debt if the resolution relates to the appointment or removal of an external administrator.
This proposal mirrors similar provisions in personal bankruptcy. The proposal appears to be aimed at preventing related creditors overriding the will of arms-length creditors through acquiring assigned debts for at less than their face value, but voting with the face value of the assigned debt.
It would appear the Government is finally getting serious about attacking this insidious problem. Whilst it could always be better (eg. reversing the onus of proof for establishing solvency or use the word phoenix) the Government has proposed a well-considered suite of legislative changes to both assist insolvency practitioners in attacking phoenix transactions and to assist in disrupting the business models of the enablers of this dirty business.
Let us hope the Government stick to their guns and resist the temptation to bow to lobbying activities of those who support and enable illegal phoenix activity.