Forms of Insolvency Appointments
Overview
The forms of administration of insolvent estates may be initially divided into two categories namely:
individuals and
corporations.
Forms of administration of the estate of an individual include the following:
bankruptcy
arrangements provided for in the Bankruptcy Act outside of bankruptcy – namely Debt Agreements under Part IX and Personal Insolvency Agreements under Part X, and
Receivership.
The forms of administration of the estate of a corporation include the following:
liquidation
alternatives to liquidation including schemes of arrangement and voluntary administration
receivership
appointment of an agent for the mortgagee in possession
Bankruptcy
Where an individual is insolvent it is possible for their estate to be dealt with under the Bankruptcy Act. The bankruptcy may be entered voluntarily under what is known as a debtor’s petition or it may be made by order of the Federal Court which is what is usually termed a sequestration order based upon a creditors’ petition. Under a debtor’s petition an individual is required to also file a statement of affairs. For a creditor’s petition it is necessary to show not only that the debtor is insolvent but also that the debtor had committed an act of bankruptcy (see our earlier blog article on Bankruptcy Notices and Creditors Petitions) within six months of the presentation of the petition.
On the commencement of bankruptcy, all of the individual’s property vests in a trustee in bankruptcy. The trustee then gains control over the property and in some situations the income of the debtor. There is some property that is exempted from this control, like superannuation (in most circumstances). Once a person is made bankrupt certain obligations rest upon the debtor to provide information and generally assist the trustee who is controlling the debtor’s property.
Unlike corporations that may be liquidated and deregistered so that they will cease to exist as a separate legal entity, individuals will eventually emerge from bankruptcy. Currently, the general rule is that a person will be discharged from bankruptcy three years from the date that he or she filed their statement of affairs. However, the period of bankruptcy may be extended to 5 years or even 8 years for non-compliance with the obligations imposed on a bankrupt. The bankruptcy may also be annulled (ended) prior to discharge in some situations.
Avoiding Bankruptcy
The Bankruptcy Act allows for two types of arrangements to be entered into by debtors with their creditors without becoming bankrupt. These are debt agreements under Part IX of the Act and Personal Insolvency Agreements under Part X of the Act (often called Part IX Agreements and/or Part X Agreements). The advantage of such arrangements from the debtor’s perspective is that the insolvency is dealt with and the debtor may move on without the usual 3 year period of restrictions applying. It also allows a degree of flexibility with respect to the property to be dealt with. From a creditor’s perspective it may mean that the debtor is more willing to contribute and assist the repayment perhaps by convincing some third party to contribute (for example, a family member of the debtor). Secured creditors are generally not bound by either a debt agreement under Part IX nor a Personal Insolvency Agreement under Part X.
Liquidation
Liquidation is essentially the “death” of a corporation. The terms “liquidation” and “winding up” are essentially interchangeable (in common vernacular, some distinction is made in the Corporations Act).
The effect of liquidation is that the assets of the company are collected, its debts are paid so far as is possible, and any surplus is distributed to members. Where the company is insolvent, there will not be a surplus.
There are three types of winding up under the Corporations Act, namely:
voluntary winding up;
winding up in insolvency (see our Blog of Statutory Demands); and
court winding up other than for reasons of insolvency (for example, an irreconcilable breakdown of the relationship between shareholders).
There is a further form of liquidation called Provisional Liquidation. The court may appoint a provisional liquidator in circumstances where a creditor of the company has reason to believe that the assets of the company may be dissipated. The Provisional Liquidator is appointment to maintain the ‘status quo’ of the company until an event in the future, most commonly, the court ordered winding up of the company.
Receiver or Mortgagee in Possession
A receiver is someone appointed to protect the interests of the appointing creditor in the company’s property and in the course of such protection to collect and receive debts. Traditionally there has been a distinction between a receiver and a receiver and manager in the sense that the receiver had a passive role of receiving the debts, whereas a receiver and manager had power to manage the affairs of the company. However, the Corporations Act effectively makes little distinction between these titles.
A secured creditor who has the right to appoint a receiver may decide instead to go into possession of the assets secured (or in some circumstances an ongoing business) and manage the assets itself, or appoint an agent to do all things that the mortgagee is entitled to do in terms of the mortgage or charge. The agent in this case is not the agent that the company like a receiver is. If the agent carries on the business of the company, it does so as agent of the mortgagee or secured creditor who assumes all risks associated with carrying on the business including the risk of any future losses. For this reason, a secured creditor may prefer to have a receiver appointed. This form or appointment is often seen in relation to mortgages over real property.
Voluntary Administration
The Corporations Act provides for the appointment of an administrator with powers to take control of the company’s affairs while a moratorium on claims against the company comes into effect (that is, creditors cannot take any action to enforce a security or commence proceedings to recover a debt, with a number of exceptions). The administrator may propose a deed of company arrangement between the company and its creditors under which the company has the opportunity of continuing with a view to again becoming profitable or gradually winding down to effectively liquidate all of its assets over time. Alternatively, the administrator may propose that the company enter liquidation, or return to the control of the directors.
Broadly, a deed of company arrangement (often called a DOCA) may be proposed by anybody to the administration to be presented to the body of creditors. They usually involved some dividend from trading the business for a period in exchange for the wiping of the debts and the ownership of the company. The DOCA is put to the creditors for voting, usually with a comparison of the dividend with the likely dividend payable should the company be placed into liquidation.
There is no ‘one size fits all’ approach to deciding which insolvency appointment is most appropriate in a particular set of circumstances.
If you would like to discuss the various forms of insolvency appointments in further detail, please contact Grauf O'Brien Lawyers for a confidential discussion.
