If there is one word that scares entrepreneurs and businesspeople alike, it’s the “B” word – bankruptcy.
For the individual concerned, it means the loss of assets and a significant impact on their ability to obtain credit, travel overseas or manage a corporation during the bankruptcy period, which normally lasts three years.
For a creditor, having a customer declared bankrupt can also mean having to settle for cents in the dollar on a debt, or even having to write it off entirely.
As a result, bankruptcy is usually only undertaken when other methods of debt repayment, such as personal insolvency agreements or debt agreements, are inappropriate or have failed.
A person becomes bankrupt by either:
- Applying for bankruptcy – a debtor’s petition where the debtor seeks bankruptcy by presenting a petition for bankruptcy to the official receiver.
- Being placed in bankruptcy – a creditor’s petition where a creditor owed at least $2,000 proceeds through the Federal Magistrates Court to have a debtor declared bankrupt by way of a Sequestration Order.
The Federal Magistrates Court may appoint a trustee, or a debtor lodging a debtor;s petition may also lodge it with a signed Consent to Act from a registered trustee, who will administer the bankrupt estate.
If a consent is not lodged, the official receiver will act as trustee.
The trustee then takes control of the bankrupt;s assets, excluding certain property categories, which include most household goods, superannuation, limited tools of trade and motor vehicles up to a set value.
The bankrupt business must complete a Statement of Affairs detailing all assets and liabilities, and personal financial information. There are severe penalties for non-disclosure and the period of bankruptcy will not start until this Statement of Affairs is lodged.
The debtor must also give all reasonable assistance to the trustee, notify the trustee of where they are living and if there are any changes in employment.
They must obtain permission if they wish to travel overseas. Federal police are well practiced in boarding flights about to leave Australia and off-loading bankrupts who are attempting to leave the country without informing the trustee.
Real estate, investments and even property acquired during the period of bankruptcy, such as lottery winnings or benefits received from a will, fall under the control of the trustee.
Bankrupts on relatively high incomes may also be required to make contributions to their bankrupt estate from their income. This will apply to people currently earning $37,537.50 net of tax (for a person with no dependents). This limit increases by CPI each six months.
Some people enter bankruptcy believing they can hide money or ‘insulate’ assets by transferring them to friends or other family members before they are declared bankrupt. The reality is very different.
The trustee has extremely wide powers and can claim back property or money the bankrupt may have transferred to others to avoid it falling into the hands of creditors.
The trustee can also ‘claw back’ payments to creditors who have been paid in preference to others shortly before bankruptcy.
After deducting expenses and costs, the trustee will then divide the proceeds from the realisation of the remaining assets among the creditors in proportion to their provable debts. These debts do not include fines.
After bankruptcy, creditors no longer have the right to enforce any remedy to recover provable debts against the bankrupt, but creditors holding security over a bankrupt’s assets may act upon that security.
A bankrupt is required to give the trustee all reasonable assistance in managing the insolvency and this is backed by severe penalties for offences against the Bankruptcy Act. These include concealing property from the trustee (imprisonment for up to three years) and false declaration (imprisonment for up to 12 months).
For the bankrupt, the following penalties may also apply: obtaining credit without disclosing the bankruptcy (imprisonment for up to three years) and disposing of property after bankruptcy (imprisonment for up to three years.)
Non disclosure to the trustee can also result in the normal three-year period of bankruptcy being extended to eight years if the trustee objects to a bankrupt entity’s discharge.
However, the bankruptcy can be annulled if the bankrupt is able to repay the debts in full or to the satisfaction of the creditors.
In some cases, bankruptcy will be unavoidable, but it should always be viewed as the option of last resort for personal insolvency.
Alan Scott is a Partner with Insolvency specialists, SimsPartners South Australia. He is also a Registered trustee. (08) 8233 9900.