New Insolvency Regime for Small Businesses to commence on 1 January 2021
- Published 23.12.2020
Less than four months after Treasurer Josh Frydenberg announced reforms to current small business insolvency laws in response to COVID-19, the legislation has been enacted and will come into effect on 1 January 2021.
The new insolvency regime involves new processes for small business restructuring and relatively simplified small business liquidations with the purpose of improving the prospects of businesses continuing to trade and reducing costs, even if they cannot continue.
Small Business Restructuring (SBR)
The SBR will be available to companies that are insolvent or likely to be, with liabilities of less than $1 million, excluding contingent liabilities. Further, employee entitlements will need to be paid, and tax returns lodged up to date. Directors (or former directors in the last 12 months) cannot have utilised SBR within the last seven years.
A Small Business Restructuring Practitioner (SBRP), being a registered liquidator, will be appointed to facilitate and asses a restructuring plan. They will investigate the company’s affairs; determine whether to certify a restructuring plan; determine whether to terminate restructuring; and deal with admissible debts or claims, amongst other functions.
Significantly, the SBRP has no personal liability for debts incurred in SBR and will not manage the company’s day to day affairs, consistent with the SBR debtor in possession model, where directors remain in control of a company during SBR.
Within 20 business days of appointment of an SBRP, a restructuring plan must be proposed to creditors if declared by the SBRP. A moratorium from creditor actions (including personal guarantees) will occur following a resolution to appoint a SBRP to assist with the collation of a restructuring plan.
Creditors vote on the restructuring plan within 15 business days and if accepted by a majority in value, SBR ends and all parties, except certain secured creditors, are bound by the plan. If rejected, SBR simply terminates. The directors may need to consider other insolvency options in this circumstance.
Simplified Small Business Liquidation (SSBL)
As with SBR above, SSBL is only available to a company with liabilities of less than $1 million, excluding contingent liabilities, and whose directors (or former directors in the last 12 months) have not utilised SSBL within the last seven years. Directors must also provide a declaration outlining whether the company has entered into a voidable transaction and that eligibility requirements are met. Additionally, the company must have resolved to be wound up voluntarily.
Key features of SSBL include that no report to creditors is required; no creditor’s meetings will be held with information provided electronically; proofs of debt are to be adjudicated within 28 days; and dividends can only be declared once.
Materially, unfair preference voidable transactions claims are only available in reduced circumstances, being for unrelated parties, those entered into within three months of the relation back date, and for more than $30,000. These new restrictions do not appear to apply to related party unfair preference claims.
Regulations and Rules
Regulations were published on 21 December 2020, only 10 days prior to commencement, which provides stakeholders with little time to consider them.
Some key provisions include creditors may change their vote prior to the acceptance of the restructuring plan; the definition of liability includes any liability or obligation; and courts may limit the rights of secured creditors. Further secured creditors will be bound by the plan to the extent their debts are unsecured or they consent for the secured portion.
Subordinate Rules were also released on 21 December 2020, providing details of the obligations and requirements of SBRPs and liquidators, as well as provisions regarding virtual meetings.
Directors need to be aware of the eligibility requirements for SBR in particular, especially those that require funding such as employee entitlements and up to date tax lodgements, which counterintuitively will make SBR more difficult. Further, suppliers may switch to less favourable trading terms such as COD during SBR, which the AICM is currently recommending to its members, to the extent permitted by law. This may impact the ability to propose and/or implement a restructuring plan.
Additionally, if a restructuring plan is rejected, or accepted and not performed, and a company is subsequently liquidated, the costs will likely be higher than if it was initially liquidated.
The new regime is designed to be quicker and cheaper than the existing processes, and with the directors also retaining control of operations under an SBR, we expect it will be a director’s preferred option when faced with insolvency, but where they are confident that the business is successful and can continue.
The legislation commences 1 January 2021 and the existing temporary insolvency protections expire on 31 December 2021. Up until 31 March 2021 directors can take advantage of transitional measures which provide relief to small businesses where it declares to its creditors an intention to access the simplified restructuring process. The existing temporary relief would then apply for a maximum of three months until a SBRP is appointed.
Liquidators need to be careful about their pricing for the new processes, particularly SBR, as well as the level of investigation and reporting required, which will likely be uncertain until there is some judicial authority, particularly if there has been material structural activity in a company shortly before it enters SBR.
In addition, ARITA has identified a drafting conflict in the legislation due to which it is currently advising members not to accept SSBL appointments. This relates to the obligation to allow creditors 20 business days to object to SSBL, while there is also an obligation to adopt SSBL within 20 business days.
As SBR is a debtor in possession model, and the SBRP is not personally liable during SBR, there is an increased risk for creditors providing credit during SBR, hence the AICM recommendation referred to above.
Conceptually, we expect creditors to have the most difficulty with the new processes, and SBR in particular, noting it effectively allows directors who may have mismanaged a company or worse, to continue to operate the company during SBR and into the future, in circumstances where creditors may have lost confidence in the directors and management.
For more information on the new processes, please see below links:
- Bill, which was passed unamended, and explanatory materials - (https://treasury.gov.au/consultation/c2020-118203)
- Regulations - (https://www.legislation.gov.au/Details/F2020L01654)
- Rules – (https://www.legislation.gov.au/Details/F2020L01678)
- AICM - Information for credit professionals (https://aicm.com.au/news-resources/aicm-insolvency-risk-report-2020/)
- Media release from Treasurer Frydenberg including fact sheet (https://ministers.treasury.gov.au/ministers/josh-frydenberg-2018/media-…)