Peter Keenan

Resident of Australia. Former Chartered Accountant. Fellow CPA. Former Registered Liquidator (25 years). Experienced in corporate and personal insolvency law and practice; forensic accounting; writing; research; taxation law and practice; accounting and bookeeping.

Confusing causes of corporate insolvency

ASIC, Corporate Insolvency, External administration, External administrators, Forms, Regulation, White collar crime Comments Off

Jul 312015

During the June 2015 hearing in Canberra of the Senate Economics References Committee’s inquiry into “Insolvency in the Australian construction industry”, Mr Dave Noonan, a national secretary in the Construction, Forestry, Mining and Energy Union (CFMEU), listed what he thought were the main causes of business failure in the construction industry. In doing so he was drawing largely on figures published by the Australian Securities and Investments Commission (ASIC), which gathers that information from liquidators and other external administrators.

It’s the latest example of these ASIC statistics being quoted as if they were accurate and credible. In the CFMEU’s case, Mr Noonan took delight in agreeing with a Dorothy Dixer from a friend in the Senate (Senator Doug Cameron) that “the CFMEU was not named as one of the major reasons for corporate failure in the construction industry”. The inference was, of course, that the statistics proved that the CFMEU was not a problem for the industry.

What some of those who quote these ASIC statistics may not know is that the categories of causes from which external administrators must choose are predetermined. In other words, in nominating causes of failure external administrators must select from a list of categories created by the ASIC. Also, one of those categories – one which gets a large number of ticks – is labelled merely “Other”.

Furthermore, and curiously, the information given to the ASIC by external administrators appears, on the face of it, to be at odds with the widespread belief amongst the insolvency community, unions and regulators that many business failures, especially in the construction industry, are the result of fraudulent phoenix activity. Which raises the question of whether the number of permitted categories of causes need to be increased, and/or whether the categories need to be modernised, broadened and clarified.

circle-of-confusion

Permitted categories of causes

The ASIC compiles its statistics on the causes of failure from information supplied by external administrators when they fill out their statutory reports online (Form EX01, Schedule B of ASIC Regulatory Guide 16). In filling out these reports – i.e., in nominating the causes of a particular corporate insolvency – external administrators must select from 13 categories of causes, which are shown below in the order established by the ASIC and using its exact words. This list of categories has existed for at least thirteen years. The only change since 2002 has been to alter the name of cause number 13, from “None of the above” to “Other, please specify”.

Select from these causes of failure

1. Under capitalisation
2. Poor financial control, including lack of records
3. Poor management of accounts receivable
4. Poor strategic management of business
5. Inadequate cash flow or high cash use
6. Poor economic conditions
7. Natural disaster
8. Fraud
9. DOCA (Deed of Company Arrangement) failed
10. Dispute among directors
11. Trading losses
12. Industry restructuring
13. Other, please specify

For those with business savvy, a rough definition of most of these ASIC categories can be deduced from their titles. (Which is just as well, because there is no official explanation.) But some categories – particularly “Fraud” (ASIC cause 8) – are vague and broad, and would benefit from the ASIC stating exactly what they mean.

Numbers for categories of ASIC causes

The ASIC’s latest report on this subject [1.] shows that in 2013-14 the “nominated causes of failure” – for all industry types, not just the construction industry – from highest to lowest, were:

Chart 1

CAUSES OF FAILURE	NUMBER
Inadequate cash flow or high cash use	4,031
Poor strategic management of business	3,975
Trading losses	3,078
Poor financial control including lack of records	2,908
Other	2,726
Poor economic conditions	2,312
Dispute among directors	1,743
Poor management of accounts receivable	1,017
Dispute among directors	271
Industry restructuring	222
Fraud	146
Natural disaster	122
Deed of Company Arrangement failed	55
TOTAL	22,606

Top nominated causes

An external administrator may nominate as many of the prescribed causes as he or she likes. According to the ASIC, external administrators nominated an average of between two and three causes of failure per report in 2013–14. So in its summary the ASIC highlights the top three nominated causes of failure for companies and provides figures on the percentage of reports by external administrator in which these nominated causes appear:

Chart 2

CAUSES OF FAILURE	2013-14
Inadequate cash flow or high cash use (ASIC cause 5)	in 42.6% of reports
Poor strategic management of business (ASIC cause 4)	in 42.0% of reports
Trading losses (ASIC cause 11)	in 32.5% of reports

These top three nominated causes have been the same for the past four years. It appears that “Other” (ASIC cause 13) may be a close fourth.

What is fraudulent phoenix activity?

The following explanation of phoenix activity comes from “Defining and Profiling Phoenix Activity”, a paper published in December 2014 as part of a research project (still going) by Associate Professor Helen Anderson, Professor Ann O’Connell, Professor Ian Ramsay, Associate Professor Michelle Welsh and Hannah Withers of the University of Melbourne Law School and the Monash Business School: [2.]

“The concept of phoenix activity broadly centres on the idea of a second company, often newly incorporated, arising from the ashes of its failed predecessor where the second company’s controllers and business are essentially the same. It is important to note that phoenix activity can be legal as well as illegal. Legal phoenix activity covers situations where the previous controllers start another similar business when their earlier entity fails in order to rescue its business. Illegal phoenix activity involves similar activities, but the intention is to exploit the corporate form to the detriment of unsecured creditors, including employees and tax authorities.
In a typical phoenix activity scenario, a company in financial difficulties, ‘Oldco’, is placed into liquidation or voluntary administration, or is simply left dormant (and may then be deregistered). Prior to this occurring, Oldco’s assets may be transferred either to a newly incorporated entity, ‘Newco’, or to an existing entity, such as a related company in a corporate group. “

Losses incurred

Estimates of losses incurred by the Taxation Office, employees, the Fair Entitlements Guarantee (FEG) scheme, sub-contractors, trade creditors , etc. as a result of phoenix activity vary, but are in the hundred of millions. On its website the ASIC quotes from figures in a report published by Fair Work Australia in 2012 which put the cost to the Australian economy at potentially more than $3 billion annually. The FWA report, “Phoenix activity: sizing the problem and matching solutions”, estimates that the annual cost of illegal phoenix activity is:

up to $655 million for employees, in the form of unpaid wages and other entitlement
up to $1.93 billion for businesses, as a result of phoenix companies not paying debts, and for goods and services that have been paid for but not provided, and
up to $610 million for government revenue, mainly as a result of unpaid tax – but also due to payments made to employees under the General Employee Entitlements and Redundancy Scheme (GEERS) now the Fair Entitlement Guarantee (FEG). [3.]

Phoenix perpetrators and phoenix victims

A phoenix transaction carried out by a company normally brings about the end of the company. If the company’s former suppliers or subcontractors cannot survive without the payments they were receiving from the company, they too may have to close down. Hence, where phoenix activity is involved a failed company might be a phoenix perpetrator or a phoenix victim (or perhaps a phoenix perpetrator as a result of being a phoenix victim!).

For simplicity’s sake, this article will focus upon companies/directors that are phoenix perpetrators.

To which category of ASIC causes of failure do phoenixing events belong?

When looking at a failed company an external administrator might conclude that the company is a phoenix perpetrator (or, to describe the event more accurately, that the directors caused the company to carry out a phoenix arrangement). However, the predetermined list of causes which the ASIC has created doesn’t provide a category that is clearly made for such cases, or a category into which such cases might logically fit.

“Fraud” (ASIC cause 8) might be an appropriate category. But if the phoenix activity was “legal” [4.] it may not.

Even if “Fraud” is the cause category into which external administrators should, and do, put fraudulent or illegal phoenix cases, then it appears that the commonly accepted extent of such activity is not being reflected in their reports to the ASIC. As chart 1. shows, “Fraud” accounts for only 146 out of 22,606 causes.

Furthermore, anecdotal evidence suggests that “Fraud” is regarded by external administrators as referring to dishonesty by employees or outsiders – like the misappropriation of funds, or the abuse of position by employees, or wrongful or criminal deception by outsiders.

In a “legal phoenix” case the external administrator might select the cause category of “Other” (ASIC cause 13). The fact that this cause stands at an appreciable 2,726 out of 22,606 on the latest count (see chart 1.) adds weight to that possibility. But because the “please specify” descriptions that are requested and given in this category are not publicly disclosed by the ASIC (and probably not even analysed), we don’t know what is being included in this undefined, catch-all category.

In a “legal phoenix” case, and even in an “illegal phoenix” case, the external administrator might – for the purpose of reporting causes of failure – disregard the phoenix transaction, preferring the view that the company failed before implementation of the phoenix scheme as a result of other causes, such as “inadequate cash flow or high cash use”, “poor strategic management of business” and/or “poor financial control including lack of records”.

What we don’t know

There is so much we don’t know. For example:

We don’t know whether phoenixing is generally regarded by external administrators as a cause of failure of companies.
We don’t know how many phoenix cases – legal and illegal – external administrators encounter.
We don’t know whether illegally phoenixing is generally regarded by external administrators as either an offence or “misconduct” to be reported to the ASIC.

Possible misconduct

The above discussion of causes has drawn on information supplied by external administrators in a particular section of the statutory report form EX01. However, the main reason for this form’s existence is to report, as required by the Corporations Act, possible offences that the external administrator has noticed.

In Schedule B external administrators are asked to advise whether they are reporting “possible misconduct”. It is possible, therefore, that reports of illegal phoenixing are contained in this main section of their reports.

But if this is so, the ASIC’s analysis of the statutory reports received – published in “Insolvency statistics: External administrators’ reports” – does not mention it. In fact, the word “phoenix” appears only once in the latest of those published reports, and then only in a passing manner. Perhaps this is to be expected, given that the word “phoenix” does not even appear in Schedules B and D nor in any other part of ASIC Regulatory Guide 16.

It’s possible that the word’s absence from the offences/misconduct section of the Regulatory Guide may be due to the fact that “there is no express ‘phoenix offence’”. [4.]

However, as “Defining and Profiling Phoenix Activity” explains, acts carried out during conduct of an “illegal phoenix scheme” are likely to be offences under one or more of several sections in the Corporations Act. Also, the acts are likely to breach provisions of the Tax Assessment Act, the Criminal Code Act and/or the Fair Work Act. [4.] .

Winding up

At this point we arrive at the same questions presented by the earlier analysis of the causes of failure. Is the phoenix activity observed by “the front-line investigators of insolvent corporations” [5.] being officially reported to the ASIC? If it is, how does the ASIC know it is, and how is the ASIC putting that information on the public record and before inquiries and researchers looking into phoenix activity?

Given the high level of interest in, and regulatory action to curb, the illegal phoenixing phenomenon, it is a pity that the store of the valuable knowledge derived from first-hand observations by external administrators is not being properly mined. The ASIC should give serious consideration to amending/expanding the Form EX01, Schedule B of Regulatory Guide 16 with simple changes to:

include a category for corporate failures caused by phoenix schemes; and
include a question in the misconduct section asking whether the company was involved in a phoenix scheme.

FOOTNOTES:

Insolvency statistics: External administrators’ reports 1 July 2013-30 June 2014: Report 412, 29 September 2014
http://law.unimelb.edu.au/cclsr/centre-activities/research/major-research-projects/regulating-fraudulent-phoenix-activity
http://asic.gov.au/for-business/your-business/small-business/compliance-for-small-business/small-business-illegal-phoenix-activity/
“Defining and Profiling Phoenix Activity”, December 2014, Associate Professor Helen Anderson and others.
The ASIC often refers to external administrators as “the front-line investigators of insolvent corporations”. See for example, “Regulatory Guide 16: External administrations: Reporting and lodging”, para. R16.4

Previous posts on this blog regarding this inquiry:

Government funding of liquidators expanded

Assetless companies, Corporate Insolvency, Employee Entitlements, External administration, Priority Debts, Voidable transactions Comments Off

Jul 062015

(6 July 2015) From 1 July 2015 the Australian Government’s Department of Employment will accept applications from liquidators for funding under its Fair Entitlements Guarantee programme. The following is a copy of the FACT SHEET for the Fair Entitlements Guarantee Recovery Programme.

A division of the Australian Government Department of Employment

Fair Entitlements Guarantee Recovery Programme

This fact sheet provides information for liquidators about the Fair Entitlements Guarantee (FEG) Recovery Programme which aims to improve the recovery of employment entitlements advanced under FEG.

The FEG Recovery Programme

FEG provides financial assistance for unpaid employment entitlements to eligible employees who have lost their jobs due to the liquidation or bankruptcy of their employers. Once entitlements are paid under FEG, the Commonwealth stands in the shoes of the employee as a subrogated creditor and is entitled to claim in the liquidation and is given priority over other unsecured creditors under the Corporations Act 2001 (Cth).

The FEG Recovery Programme is administered by the Department of Employment (‘Department’) with the purpose of funding actions that will improve recovery of amounts advanced under FEG.

Under the FEG Recovery Programme funding may be provided to liquidators to enable recovery efforts, including legal proceedings, which the liquidators would not otherwise have the financial resources to pursue.

How to apply

Actions that the Department may consider funding include, but are not limited to:

voidable transaction claims, such as unfair preferences and uncommercial transactions;
insolvent trading claims;
transactions entered into with the intention to avoid employment entitlements; and
claims against receivers and secured creditors for failure to pay employment entitlements.

Liquidators of insolvent entities where employment entitlements have been paid under FEG can apply for funding assistance where:

they are aware of one or more claims that might be brought, on behalf of the company, against any person or persons; and
those claims have reasonable prospects of success and, if successfully prosecuted, will result in the company recovering property that will improve the return for employment entitlements.

Applications for funding assistance can be made by completing the Funding Application Form available on the FEG website and returning:

by email to: FEGRecovery@employment.gov.au
by post to: Fair Entitlements Guarantee Branch Department of Employment GPO Box 9880 CANBERRA ACT 2601

Considerations

When determining whether to provide funding, the Department will have regard to:

the merits, prospects of success and risks of the proposed action;
the complexity of the proposed action and its likely duration;
the total costs that are likely to be incurred, compared to the admitted value of the Department’s proof of debt and the scope for improved recovery;
the availability of favourable evidence;
whether the proposed defendant or defendants have sufficient assets to satisfy an adverse judgment; and
whether sufficient information has been provided, as part of the initial application or in response to a request for further information, to enable the Department to make its funding decision.

If your application is accepted, you will be required to enter into a funding agreement with the Department. The funding agreement will govern what the Department will pay for and how monies recovered are to be applied.

A draft of the funding agreement will be provided to you if your application is accepted. The Department will not be liable to pay any amounts until the funding agreement has been executed and will only provide funding in accordance with the funding agreement.

Want more information?

You can contact the FEG Hotline if you would like more information about the FEG Recovery Programme:

by phone on: 1300 135 040
by email to: FEGRecovery@employment.gov.au

If you speak a language other than English, call the Translating and Interpreting Service (TIS) on 13 14 50 for free help anytime.

Further information about FEG is also available on the FEG website (www.employment.gov.au/FEG).

The information contained in this fact sheet is not legal advice. Where necessary, you should seek your own independent legal advice relevant to your particular circumstances. The Commonwealth is not liable for any loss resulting from any action taken or reliance made by you on the information contained in this factsheet. Updated: June 2015

Creditors’ voluntary winding up – fundamentals – flowchart

Checklists and guides, Corporate Insolvency, Insolvency Law, Insolvency practices Comments Off

Jun 242015

(24 June 2015: copyright P J Keenan)

OVERVIEW OF Creditors’ Voluntary Winding up IN AUSTRALIA

Resolutions by shareholders to wind up the company and to appoint a liquidator

Liquidator takes control of business, property and affairs

Liquidator prepares report of proposed remuneration

Liquidator makes declarations of indemnities, up-front payments and relevant relationships

Directors’ statement about business, property, affairs and financial circumstances of company (Report as to Affairs)

Meeting of creditors (possible committee of inspection; fix remuneration of liquidator; confirm or change liquidator; etc.)

Investigations, realisations of assets and unpaid share capital, recovery of property and (possibly) recovery of compensation	Liquidator’s statutory reporting, accounts and returns
Examination and determination of creditors claims	Payment of expenses and liquidator’s remuneration
Distribution of residual funds to creditors	Annual meeting of creditors or annual report

Final meeting of creditors and shareholders

Deregistration of the company

LAW: Corporations Act 2001, Chapter 5; Corporations Regulations 2001.
PRACTICE STANDARDS: The Third Edition of the Code of Professional Practice of the Australian Restructuring Insolvency & Turnaround Association

Compelling first day at inquiry into construction industry insolvencies

Assetless companies, Corporate Insolvency, Debt Administration, Employee Entitlements, Insolvency Statistics, Official Inquiries, Phoenix company activity, Regulation, White collar crime Comments Off

Jun 192015

(19/6/2015) A lively public hearing before the Senate Committee looking into insolvency in the Australian construction industry has been told by several speakers that sub-contractors should be protected by requiring head contractors to place money in trust funds. The Committee also heard about debt collection methods, outlaw bikie gangs and new allegations concerning events leading up to the collapse of Walton Construction in October 2013.

Those appearing before the Committee on 12 June 2015 included Mr Dave Noonan, National Secretary of the Construction and General Division, Construction, Forestry, Mining and Energy Union (CFMEU), representatives of the Subcontractors Alliance, Project Resources, Masonry Contractors Association of NSW, EcoClassic Group Pty Ltd and Erincole Building Services Pty Ltd.

MORE TO COME: At the close of the day Senator Cameron said: “Chair, there might be other issues once we have a look at the Hansard. We might need to get some of this group back again further on. This inquiry is going to run for a bit of time yet, so we will need to have a look, see what you said and come back.”

The official Hansard transcript of the hearing on 12 June 2015 was recently published on the Parliament’s website. A PDF copy of the 56 page transcript may be downloaded from that site by clicking here.

ARITA publishes tax guide for insolvency practitioners

Checklists and guides, Corporate Insolvency, Insolvency practices, Personal Bankruptcy, Practitioners Association (ARITA), Taxation Issues Comments Off

Jun 112015

Tax Checklist for IPs
The Australian Restructuring Insolvency and Turnaround Association (ARITA), with the help of professional services firm PricewaterhouseCoopers Australia (PWC), has published a tax guidance checklist to assist insolvency practitioners with identifying tax issues and their obligations on taking insolvency appointments. (Publication date 10 June 2015)

The checklist has 57 questions, alerts, recommendations and tasks concerning income tax, goods and services tax, fringe benefits tax, PAYG withholding, and superannuation guarantee.

ARITA suggests that “Members should note that while ARITA will endeavour to ensure that this guidance is kept up to date, tax is an area subject to constant change and the guidance is current, to the best of our knowledge, as at the date included in the footer of the document. Members should ensure that they are always using the most current version of the guidance”.

The checklist is intended to provide assistance and help to insolvency practitioners in the complicated field of tax compliance. There is no suggestion from ARITA that use of their tax guide is mandatory or necessary or even recommended.

Extract from ARITA tax guide

Access to the full guide is available through the ARITA website: CLICK HERE.

Update 14 July 2015:

From ARITA on 13 July:

ARITA has received a number of queries from members regard the relevant PAYG Withholding Rates for dividends paid to employees by external administrators in light of the increase to the Medicare Levy.

On consultation with the ATO, we have been advised that the 2005 Notice of Variation is still current and the 31.5% standard rate still applies and will continue to do so until the notice of variation ceases on 1 October 2015.

The ATO further advises that it is looking to renew the notice but before that occurs will consult with relevant stakeholders, including ARITA and external administrators, about whether changes need to or should be made to the current notice, including any changes to the rates on the notice.

Senate Committee told about phoenix activity in construction industry

Corporate Insolvency, Insolvency Law, Official Inquiries, Regulation, White collar crime Comments Off

May 292015

Parliament website
The Senate Committee established to inquire into “Insolvency in the Australian construction industry” – which is code for illegal phoenix activity in the construction industry – has received written submissions from industry bodies, unions, contractors associations, superannuation funds, insolvency practitioners, the ATO and the ASIC. A total of 18 submissions were received and are available for download from the Parliament of Australia website. Below is a screenshot of the list of submissions.

Submissions to committee

Heard the expression moral bankruptcy? Now there’s penal bankruptcy in Bankruptcy Law

Case Reports, court decisions, Criminal convictions, Insolvency Law, law reports, Personal Bankruptcy, White collar crime Comments Off

May 212015

Slap with feather … (updated 4 December 2015)

Case 3

Australian Financial Security Authority – Media release: (NSW) Hull – Bankrupt pleads guilty to three offences under the Bankruptcy Act

Wed 02 December 2015

A man was sentenced for disposing of property within 12 months prior to becoming a bankrupt with intent to defraud his creditors and having made a false declaration on his Statement of Affairs. Mr Denis John Hull was sentenced in the Downing Centre Local Court on 24 November 2015 following a guilty plea being entered to having disposed of property within 12 months prior to becoming a bankrupt with intent to defraud his creditors and to having made a false declaration on his Statement of Affairs.

On 31 March 2012 Mr Hull received a total of $21,175.44 from the sale of two parcels of shares authorised for sale on 26 March 2012. On 10 April 2012 he became bankrupt via Debtor’s Petition, by which time he had disposed of monies totalling $16,000 received from the sale of shares. In his Statement of Affairs completed on 5 April 2014, Mr Hull failed to disclose the sale of the two parcels of shares, and failed to disclose the existence of the bank account into which the share proceeds were subsequently deposited.

During the proceedings Magistrate Milledge remarked that the offending was “quite deceitful and very worrying”. She later stated that the offending was “despicable, mean and criminal”, but acknowledged that it was clear that Mr Hull accepted that as demonstrated in his letter to the court. In passing sentence, Magistrate Milledge gave consideration to Mr Hull’s age at the date of the offending; the fact that he had previously managed to lead a trouble free life; and that his recent efforts to repay the monies showed remorse; and remarked that it was her view that whilst there was serious criminality she saw it as something that was done at a critical place in life and understood that this was why Mr Hull had done what he had done, noting that this did not excuse the offending.

Mr Hull was sentenced and was ordered to enter into a 2 year good behaviour bond in the amount of $200 with nil conviction to be recorded pursuant to Section 19B(1)(d) Crimes Act 1914. Magistrate Milledge noted that no restitution order would be made as this was being taken care of.

The matter was prosecuted by the Office of the Commonwealth Director of Public Prosecutions.;

Amazing … (updated 11 August 2015)

Case 2

Australian Financial Security Authority – Media release: (TAS) Smith – Discharged bankrupt faces court and imprisonment for failing to disclose financial details and withdrawing cash of $72,600

Thu 06 August 2015

A dairy farmer formerly of King Island, Dominic Luke Smith was prosecuted in the Launceston Court of Petty Sessions on 24 July 2015 for removing $72,600 from his bank accounts in 2012, prior to and just after the date of bankruptcy.

Mr Smith also failed to keep appropriate books and records relating to his business transactions for five years prior to his bankruptcy and failed to disclose information as required by the trustee. Mr Smith was not able to account for how he spent a $100,000 loan and failed to produce bank account statements and cheque butts when requested by his bankruptcy trustee. Mr Smith pleaded guilty to 15 offences under the Bankruptcy Act and was sentenced to a total effective sentence of 4 months’ imprisonment, released on a $1,000 two-year good behaviour bond. The matter was prosecuted by the Office of the Commonwealth Director of Public Prosecutions.

Case 1

Australian Financial Security Authority – Media release NSW (McElwaine) – Nine-month bond for offence against the Bankruptcy Act

Thu 14 May 2015

A NSW woman has pleaded guilty to gambling away more than $137,000 from the sale of her property rather than paying creditors before declaring bankruptcy with debts of $438,000. Dee Why resident Bridgett McElwaine was sentenced in the Downing Centre Local Court on 12 May 2015 after pleading guilty to an offence against the Bankruptcy Act. Ms McElwaine filed for voluntary bankruptcy in October 2012 with debts of $438,000 mostly from the use of 22 credit cards. Before her bankruptcy, Ms McElwaine had received proceeds of more than $137,000 after selling her property in Frenchs Forest, NSW. She withdrew more than $96,000 in the 12 months before her bankruptcy and told the court she ‘blew the lot’ on gambling instead of making the money available to her creditors. In sentencing Magistrate Goodwin noted a jail term was available for Ms McElwaine’s serious offence and that a clear message needed to be sent to the community about the unacceptable nature of that behaviour. Ms McElwaine was convicted and placed on a nine-month good behaviour bond, recognisance of $500 and to accept Community Corrections Service supervision. The case was prosecuted by the Office of the Commonwealth Director of Public Prosecutions.Media release NSW (McElwaine) – Nine-month bond for offence against the Bankruptcy Act

Tax Office wins right to appeal in test case regarding liquidators’ tax obligations

Capital Gains Tax, CGT, Corporate Insolvency, Insolvency Law, Insolvency practices, Priority Debts, Taxation Issues Comments Off

Apr 272015

{UPDATE 10/12/2015: The ATO lost in the High Court case. See my post of 10/12/2015.}

On 17 April 2015 the High Court granted special leave for the Australian Taxation Office to appeal the decision by the Full Federal Court in the Australian Building Systems case.

Previously … The liquidators of Australian Building Systems Pty Ltd disposed of company property for a capital gain. The Commissioner of Taxation claimed that the liquidators were required to retain funds from the sale proceeds to pay tax arising from the gain. The Federal Court (21/2/2014) and the Full Federal Court (8/10/2014) rejected the Commissioner’s position, holding that the payment and retention obligations in s 254 of the Income Tax Assessment Act arose only when a notice of assessment was issued by the Commissioner.

Commenting on the High Court’s grant of leave to appeal against those decisions of the Federal Court, David Pratley of Minter Ellison, Lawyers, says:

“Regrettably, the tax obligations of insolvency practitioners will continue to be uncertain for some time. It will likely be at least 12 months before the High Court hands down its decision on the appeal. If the appeal is allowed it would generally have retrospective application. Hence practitioners that rely on the Full Federal Court decision in releasing funds could be exposed to the risk of personal liability.”

Extracts from the transcript of the application for special leave

Below are extracts I have made from the High Court transcript number [2015] HCATrans 082. CLICK HERE to see full transcript. The application for special leave to appeal was before KIEFEL J and KEANE J. The full name of the case is : Commissioner of Taxation v Australian Building Systems Pty Ltd (In Liquidation); Commissioner of Taxation v Ginette Dawn Muller and Joanne Emily Dunn as Liquidators of Australian Building Systems Pty Ltd (In Liquidation) [2015] HCATrans 82 (17 April 2015)
_________________________________________________________

MR J T GLEESON, SC (representing the Commissioner of Taxation):

…. So, in practical terms, a commissioner contends that if the liquidator sells a block of land on a certain date in the year for, let us say, a $10 million gain, the section requires the liquidator as a trustee to ensure that sufficient moneys remain in his or her hands to meet the tax when it is assessed at some future point. The obligation cuts in because the gain has been derived and it has its particular force at the time the liquidator is contemplating paying away money from the fund. So, in the example I have given, assuming they were the only facts known to the liquidator and the corporate tax rate was 30 per cent, the liquidator before making distributions to creditors or contributories would always make sure $3 million remained in the bank to pay the tax.

KIEFEL J: Do you say the obligation arises upon the receipt on each occasion of income or each transaction by which profit or gain is – – –

MR GLEESON: Yes, it arises because the derivation under paragraph (a), which is treated as being a derivation by the trustee or agent, and he thereby is bound under the obligation for the very good purpose that the whole point is so that the money remains there rather than the liquidator pay it away and then, when an assessment is later issued, the Commissioner would have to try and chase the creditors or the contributories.

….

KIEFEL J: What do you say – I think you have dealt with this in your reply – to the respondents’ argument that your construction leads to difficult results about how the liquidator has to estimate exact amounts?

MR GLEESON: It may or may not require attention by the liquidator to those questions. If it does, that does not call for any different construction, because the point of being a liquidator or a trustee or an agent, by taking on that responsibility the Act has placed upon you the duty to sufficiently inform yourself of the circumstances of the trust estate or the principal’s affairs with which you are acting in a representative capacity.

What the liquidator does – I have given a simple example where the liquidator says, “I must keep $3 million back from the creditors”, and if later on in the year there are further transactions on the tax account which the liquidator has information which might adjust the amount that he or she needs to keep, he or she makes an adjustment. But the critical thing is, the purpose of it is, do not pay away the money which needs to be there to make sure the Commissioner can recover the tax. By taking on the duty of trustee or agent you take on a statutory responsibility to ensure that is done. May it please the Court.

__________________________________________________

MR S DOYLE, QC (representing the liquidators of Australian Building Systems Pty Ltd Acn 094 238 678 (In Liquidation)):

….

The respondent’s contention is “due” there means payable and our learned friend’s contention is that it means “owing” and it turns therefore on the question of whether there need be or need not be an assessment.

The construction for which the respondent contends, we would submit, is plainly right. It is required by the language of 254(1)(d), which speaks of a sum which is due but, more importantly, of a sum which will become due, not as the case against us requires that it be understood as if it might become due because our learned friend’s capital gain tax case is a good example upon the sale for a capital gain one can postulate that tax might become due, one cannot say that tax will become due without having regard to the totality of the affairs of the principal, the underlying taxpayer.

Additionally, the construction for which we contend gives defined content to the obligation to retain sufficient to pay because it is only when there is an assessment that one can know what that figure is. Our learned friend says against us that a liquidator has an obligation to understand the affairs of the company or a trustee has an obligation to understand the estate assets. This is not a question of diligence. This is a question of certainty. There is a defined obligation which requires one to be able to say, what is the sum sufficient to pay for the tax? The construction for which the respondent contends – which was favoured below – permits that to occur; the opposite construction does not.

KIEFEL J: Are you saying that the liquidator should only be required to be in a position to understand the overall obligations to pay tax on behalf of the company for the whole year rather than it being considered on a transactional basis?

MR DOYLE: It can only be when there is an assessment made. Assuming there are other affairs of the company within that period, it is only when there is an assessment issue that one can say that there is tax which will become due and that gives definition to the content of the obligation to retain a sum sufficient to pay it. It also gives content to – I hope I have answered your Honour’s question.

….

MR DOYLE:

…. To answer your Honour Justice Keane’s question, it is right to say the liquidator conducts the affairs of the company and has the obligation to put the tax return in. But our learned friend’s contention is the content of the obligation to withhold the money from the principal and to retain it under relevantly (d) and (e) arises long before that is done – arises at the moment of each receipt as it was put to you. That requires one to be able to say, the statute imposes a definable obligation on someone to withhold – as is the case here – a sum sufficient to pay the tax due upon a sale which gives rise to a capital gain in circumstances where there is no sum which can be defined as the tax due, or will become due, because of the other uncertainties which will influence the amount, if any, of tax which will become due.

That is, in our submission, the real difficulty with the case which is put by the applicant. It requires you to be able to say that when a liquidator makes a sale at a capital gain, he is obliged to do something to retain that money – that is, obliged by the Tax Act – forgetting his obligations as a liquidator – obliged by the Tax Act to do something with that money in circumstances where it is not possible to say how much. It is not possible to say there will, in fact, be tax due because subsequent events may mean there is no tax due.

….

KIEFEL J: Yes, there will be a grant of special leave in this matter. The Court notes the Commission is undertaking to pay the respondent’s costs, regardless of the outcome in this matter. The parties should obtain a copy of the directions for the filing of submissions with respect to this matter and, of course, to adhere strictly to the timetable there set out. Time estimate? No more than a day? ….

_____________________________________________________

Links to previous post about tax on this blog site:

“Post-appointment income tax debts of liquidator” – 10 October 2010
“Taxing capital gains made during liquidation” – 15 October 2010
“Legal opinion warns external administrators about personal liability for company taxes” – 16 November 2010
“Decision only partly resolves tax puzzle for liquidators” – 7 March 2014
“ATO appeals against decision in Australian Building Sysytems case” – 19 March 2014
“Tax Office loses to liquidators in test case regarding tax obligations” – 10 October 2014

Review of the Personal Property Securities Act finished and tabled

Corporate Insolvency, External administration, Insolvency Law, Personal Property Securities, retention of title Comments Off

Mar 252015

The Final Report on the review of Australia’s Personal Property Securities Act (PPSA) was tabled before Parliament on 18 March 2015. (It was written by Bruce Whittaker, Partner, Ashurst.)

Cover of report

Extracts from Executive Summary

…. The Personal Property Securities Act 2009 (referred to in this report as the Act) has improved consistency in Australia’s secured transactions laws, but submissions emphasised that the Act and the Register are far too complex and that their meaning is often unclear, and that the resultant uncertainty has not allowed the Act to reach its potential…. …. Much can be done to improve the Act. The Act is significantly longer than the corresponding legislation in other jurisdictions, and while some of that additional length is attributable to constitutional or other machinery provisions, much of it flows from the very prescriptive nature of some of the drafting, and from the inclusion of additional provisions that may be of only marginal benefit…. …. There is no one single step that by itself will produce a major improvement to the Act. Rather, improvement needs to come from the making of many small changes…. …. The reforms introduced by the Act will only realise their objectives if the people that it affects are aware of it, and understand how it affects them. Government went to considerable efforts to raise awareness of the Act around the time that the Act was passed, but general awareness of the Act appears to have remained low, and the complexity and unfamiliarity of the content of the Act have meant that many do not know how to work with it….

Recommendations

There are 394 recommendations in the Final Report. They appear in a table in Annexure E, beginning at page 502 of the report. DOWNLOAD: The full report is available for download at this AG department website.

Non-compliance with the Act

As someone who believes that our laws must be drafted using plain writing skills, and as one of those who felt strongly and said from the start that the Personal Properties Securities Act 2009 was far too complex and confusing for the vast majority of people to understand (and hence, badly written), the Report’s comments to this effect are worth repeating here. They appear under the heading “3.2.3 Causes of non-compliance with the Act”:

The lack of awareness and understanding of the Act among users is also the primary reason why businesses are failing to comply with it. A person who is not aware of the existence of the Act, or of the fact that it could apply to them, is most unlikely to be operating in a manner that is consistent with the rules set out in the Act, particularly as those rules are very different in some critical respects to the laws that preceded them. Similarly, even people who are aware of the Act and of the fact that it affects them are often failing to comply with its rules because they do not understand those rules properly. One submission from the rural sector observed, for example, that the Act:

has not achieved a clear and appropriate outcome for small business; rather it has created a raft of uncertainty, misrepresentation and total confusion for all small business operators in Rural Australia.

The extracts from submissions that are set out above in Section 3.1.2 all make the same point: that the Act and the Register are far too complex. This was a consistent theme across the submissions as a whole.

The Act deals with a complex area of the law – one that traverses our entire economy, and that manifests itself in different sectors of the economy in very many different ways. The area does not lend itself to one simple set of rules, and the Act will always be complex. The submissions demonstrated, however, that the Act is more complex than it needs to be. In my view, a number of factors have contributed to this outcome.

First, as noted earlier, many of the concepts and much of the terminology in the Act have been adopted from overseas models. Those models were not created in a legal vacuum, but were founded in and based on the substance of the legal systems for which they were developed. In particular, while Article 9 of the Uniform Commercial Code in the United States was regarded as revolutionary in the way that it created a standard set of rules for all types of security interests, it was also very much a creature of the state of law and commercial practice in the United States at the time it was developed. Clearly, the economic structures and legal systems in Australia in the early 21st century are very different to those that prevailed in the United States in the middle of the previous century. As a result, terminology and concepts that made sense and were relevant for Article 9 as part of United States law will not necessarily make the same sense, or have the same relevance, in the Act as a component of current Australian law.

Secondly, it appears that the architects of the Act may have tried too hard to be helpful. The Act is far longer than its Canadian and New Zealand counterparts, even allowing for the additional provisions that were included to accommodate constitutional and other machinery requirements. The developers of the Act appear to have endeavoured to produce a “best of breed” piece of personal property securities legislation, by picking out the best elements of the offshore models and then adding additional detail in an effort to explain more clearly exactly what is required. Rather than helping Australian businesses, however, this had the effect of creating very specific and detailed operational requirements. It limited flexibility and required changes to operating practices in order to align them with the structures required by the new rules.

The third main factor that has led to this situation, in my view, is that the development of the Act appears to have been approached as a design process, too divorced from the realities of the marketplace that it was designed for. While Government did provide the business and legal community with opportunities to comment on drafts of the legislation, the sense of many of those who were involved in the consultation process was that input from the business and legal community was not sufficiently incorporated into the policy design and the detailed drafting. As a result, there is a misalignment in some areas between the policy and drafting of the Act on the one hand, and the operating realities of the Australian business environment on the other. This has created confusion and uncertainty, rather than clarity and certainty.

This is not intended to reflect adversely on the individuals involved in the actual drafting of the Act, or those who instructed them. Rather, it is a reflection of the magnitude and complexity of the task.

Whatever the reasons for the confusions and complexities in the Act, they have made the Act very hard to understand and to work with, not just for businesses but even for legal specialists as well. This is exacerbated by the fact that the complexities compound each other – unfamiliar terms and uncertain concepts are used in complex provisions, in a way that can make it even more difficult to determine how those complex provisions inter-relate with each other. The cumulative effect is that the Act can be very difficult to understand and to work with.

It is clear that much can and should be done to streamline the Act, and to align it more closely with the realities of the marketplace that it applies to. That is the subject of Chapters 4 to 9 of this report.

The big challenge for amendments to the Act that are made as a result of the Final Report is that they make the Act and its practical application much easier to understand.

Policy positions of the insolvency practitioners association

Corporate Insolvency, External administration, External administrators, Insolvency Law, Insolvency practices, Official Inquiries, Practitioners Association (ARITA) Comments Off

Mar 052015

A set of “policy positions” on insolvency law and practice has just been issued by Australia’s insolvency practitioners association – the Australian Restructuring Insolvency and Turnaround Association (ARITA).

The policies are titled:

Policy 15-01: ARITA Law Reform Objectives (Corporate)
Policy 15-02: Aims of insolvency law
Policy 15-03: Current Australian corporate restructuring, insolvency and turnaround regime and the need for change
Policy 15-04: Creation of a Restructuring Moratorium (Safe Harbour)
Policy 15-05: Stronger regulation of directors and creation of a director identification number
Policy 15-06: Advocate for Informal Restructuring
Policy 15-07: Reworked Schemes/Voluntary Administration regimes to aid in the rehabilitation of large enterprises in financial distress
Policy 15-08: Extension of moratorium to ipso facto clauses
Policy 15-09: Streamlined Liquidation for Micro Companies
Policy 15-10: Micro Restructuring
Policy 15-11: Pre-positioned sales

ARITA’s 17-page paper – named Policy Positions of the Australian Restructuring Insolvency and Turnaround Association – is the final version of its discussion paper, A Platform for Recovery 2014. It is attached to its submission on 2 March 2015 to the Productivity Commission’s public inquiry into ” barriers to setting up, transferring and closing a business”.

It seems ARITA’s policy positions paper is not yet (mid-day 5/3/15) published as a separate document on ARITA’s website. However, I have created a copy, which is available on my website now.

ARITA’S full 59-page submission to the Productivity Commission is available on its site, as is its useful summary of the key points made in the submission. ARITA says that the policies in the Policy Positions paper form the key basis of ARITA’s submission to the Productivity Commission.

Other link: To the website of the Productivity Commission’s Business Set-up, Transfer and Closure inquiry.

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