Small Business Insolvency Law Reform: One size does not fit all

On 1 January 2021, a number of changes to Australia’s insolvency framework came into effect, pursuant to the Corporations Amendment (Corporate Insolvency Reforms) Act 2020 (Cth) (the Act). The reforms, which were first announced by the Government in September 2020, replace the former ‘one size fits all’ insolvency approach under the Corporations Act 2001 and introduce further alternatives for financially distressed SMEs following the expiry of the temporary COVID-19 insolvency relief measures.

The key features of the Act are the introduction of the new small business restructuring process, the simplified liquidation process and other complementary measures. For example, this includes extended insolvency trading relief for certain eligible businesses.

Who is eligible?

A company will be eligible for small business restructuring and the simplified liquidation process if the company:

• has ‘total debts’ of less than $1 million, including secured and related party debts, but not contingent debts or employee entitlements;
• has not previously utilised either of the processes within the previous seven years;
• does not have any current or former company directors (within the previous 12 months) who have been directors of other companies that have utilised either of the processes within the same time frame;
• has up to date tax lodgements; and
• is not currently subject to other forms of external administration or restructuring.

Small Business Debt Restructuring[1]

The new restructuring process adopts a ‘debtor in possession’ model. It is intended to provide eligible companies with a faster and more cost-effective mechanism to restructure their debts and maximise chances of survival.

What does the restructuring process involve?

To enter into the restructuring process, the Board of an eligible company must resolve that the company is, or is likely to become, insolvent and that a restructuring practitioner should be appointed.[2]

Following the appointment, the restructuring practitioner assists the company in developing a restructuring plan for creditor consideration, whilst the business owners retain control and may trade in the ordinary course of business.[3] The practitioner is not personally liable for debts incurred during this period.

The restructuring plan must be put to the creditors within 20 business days, although this period may be extended in certain circumstances.[4] Creditors are able to dispute the existence or amount of their debts and claims within five business days[5] and must vote to accept or reject the plan within 15 business days following receipt of the notice. A majority of creditors by value, excluding related-party creditors, must accept the plan for it to be binding. The restructuring process ends if the plan is not approved.

What action can be taken during the restructuring process?

Prior to the creditor vote, a moratorium is placed on all unsecured creditor claims and most secured creditor claims (except with leave of the Court). The rights of secured creditors broadly reflect the existing voluntary administration process, as security enforcement cannot occur unless:

• Enforcement had begun prior to the debt restructuring process commencing;[6]
• The practitioner has provided written consent;
• The Court has granted leave; or
• The secured creditor has security over the whole, or substantially the whole, of the company’s property and takes enforcement action within the ‘decision period’, ending 13 business days following notice of appointment of the restructuring practitioner.[7]

As with voluntary administrations, there is also a stay upon the enforcement of ‘ipso facto’ contractual clauses.

Consequences of a restructuring plan?

Secured creditors are only bound by a restructuring plan to the extent that they consent to it and to the extent that their claim exceeds the value of their security interest. A restructuring plan does not prevent a secured creditor from realising or otherwise dealing with their security, unless they have consented to a plan that restricts their ability to do so, or are otherwise prohibited by a court order.[8]

Simplified Liquidation Process

In circumstances where restructuring is not possible, the reforms introduce a new simplified liquidation pathway that allows for faster and lower-cost liquidation for eligible companies.

What does the simplified liquidation process involve?

Whilst much of the liquidation process remains the same, certain modifications are intended to streamline the process including:

• the removal of the obligation to provide a report on offences to ASIC,[9] unless the liquidator has reasonable grounds to believe that misconduct has occurred;
• the removal of the obligation to hold creditors’ meetings and the ability to form Committees of Inspection;
• technology neutral processes in voting and information distribution; and
• reducing the circumstances in which unfair preference and voidable transaction claims may be pursued, with the ‘clawback period’ reduced from six to three months and a new threshold of more than $30,000 introduced.[10]

How does the process commence?

The simplified liquidation process applies only to creditors’ voluntary liquidations. A liquidator is able to adopt the simplified liquidation process if the company meets the aforementioned eligibility criteria and:

• the company will not be able pay its debts in full within 12 months after the commencement of the liquidation;[11]
• the company has resolved to be wound up voluntarily; and
• within five business days of the resolution, the directors provided the liquidator with a report on the company’s affairs and sign a declaration regarding the company’s eligibility.

The simplified liquidation process must be adopted no later than 20 business days following the winding up resolution. Moreover, liquidators must provide all members and creditors with notice of their right to opt-out at least 10 business days before adopting the process. Pursuant to this notice, creditors holding 25% of the company’s value are able to direct the liquidator to not adopt the process.

Complementary measures

Finally, the insolvency law reform package introduces complementary measures to facilitate the new initiatives and assist small businesses during the transition period. Critically, eligible companies are able to continue to benefit from the previous COVID-19 insolvent trading relief measures by publishing a declaration of their intention to access the restructuring process on ASIC’s Published Notices website before 31 March 2021 and notifying ASIC.[12] The extended period of relief only commences upon the publication and lasts for an initial period of three months, which may be extended by a further month in certain circumstances. Other measures aim to encourage the registration of more practitioners, such as the temporary waiver of liquidator registration fees.

Key takeaway

The reforms have been labelled as “the most significant changes to Australia’s insolvency framework in 30 years“.[13] With the expiry of the JobKeeper scheme in March, it is likely that the number of external administrations will increase significantly. Both insolvency practitioners and creditors should ensure that they are well prepared as they will be required to act quickly due to the relatively short timeframes and notice requirements involved in the new processes. In the short-term, insolvency practitioners also ought to be wary about the extended insolvency relief measures for certain companies.

Authored by:

Scott Couper, Partner
Matilda Kelly, Lawyer

[2] Corporations Act 2001 (Cth) s 453b(1)(b).

[3] Ibid ss 453K, 453L.

[4] Regulations 5.3B.17.

[5] Ibid 5.3B.22.

[6] Corporations Act 2001 (Cth) s 454D.

[7] Ibid s 454C.

[8] Regulations 5.3B.29(4).

[9] Corporations Act 2001 (Cth) s 533.

[10] Regulations 5.5.04.

[11] Corporations Act 2001 (Cth) S 500AA(b).

[12] Ss 458D, 458E.

[13] https://ministers.treasury.gov.au/sites/ministers.treasury.gov.au/files/2020-09/Insolvency-Reforms-fact-sheet.pdf.