Colleagues - The Official SV Partners Newsletter - Issue 41 September 2023

COLLEAGUES

THE OFFICIAL SV PARTNERS NEWSLETTER

SMALL BUSINESS RESTRUCTURING

The Small Business Restructuring (SBR) regime was introduced in January 2021, aiming to provide a simplified and cost-effective process for small businesses to restructure and continue their operations after the impact of COVID.

Eligibility and Process

The key aspects of Small Business Restructuring are:

1. Eligibility Criteria

Before commencing a SBR the director must ensure that:

• The company has total liabilities, including contingent liabilities, of less than $1 million (excluding employee entitlements and fully secured debts); and

• The company or its director(s) (including any directors within 12 months) cannot have been subject to a small business restructuring or simplified liquidation process within the previous 7 years.

2. Appointment of a Small Business Restructuring Practitioner (SBRP):

• The company must appoint a SBRP, who is a Registered Liquidator, to oversee the restructuring process;

• The SBRP’s role is to assist the business in preparing a restructuring plan and liaise with creditors;

• The SBRP does not take over the operations of the company’s business.

3. Restructuring Plan:

• The company, with the assistance of the SBRP, develops a restructuring plan that outlines how it intends to address its financial issues, return to profitability and deal with the amounts owed to creditors;

• The company will have 20 business days (can be extended by an additional 10 business days) to develop the plan;

• The SBRP will liaise with creditors and provide a report detailing the makeup of the plan;

• Creditors must vote to approve or reject the plan, with a majority in value required for approval.

4. Moratorium on Enforcement Actions:

• While the restructuring plan is being developed and voted on, a moratorium is in place, preventing creditors from taking legal actions against the company. This includes creditors holding personal guarantees against a director;

• This provides breathing space for the business to develop and implement the

plan;

• Additionally, directors of a company undergoing SBR are provided with temporary safe harbour protection from insolvent trading while the restructuring process is underway;

• Note that if winding up proceedings have been commenced prior to the SBR process commencing, the cooperation of the petitioning creditor in adjourning the winding up proceedings will be necessary. Alternatively, the company will need to instruct solicitors to ensure that the court either adjourns or dismisses the winding up proceedings.

5. Effect of Approval:

• If the plan is approved, it becomes legally binding on all creditors, including those who voted against it or did not vote.

• The business continues to operate, making payments as per the plan.

• Once the plan is implemented, any creditor holding a personal guarantee against the director is able to pursue the director in respect of that guarantee.

6. Costs:

• The costs for the proposal phase of a SBR is a fixed amount that is paid upfront by the company.

• Should creditors accept the plan, the SBRP will be entitled to a percentage of the funds contributed to creditors. The percentage would be determined during the plan development.

Recent Experience

Whilst the SBR process was first introduced in 2021, it wasn't frequently used until mid-2022 when the ATO took a more proactive approach to debt collection.

More recently, we have noticed a more aggressive approach to companies that haven’t been in contact with the ATO regarding their unpaid debts. This approach includes issuing DPNs to directors for unpaid superannuation, PAYG and GST.

Given that DPNs expire 21 days after the date of the notice (not service of the notice), directors are often given little time to consider their options.

In addition, we have been involved in a number of SBRs where the ATO had commenced winding up proceedings prior to the SBR commencing. In these cases, the ATO has consented to short adjournments whilst lodgements were brought up to date and the company’s plan formulated. The

Stuart Otway & Travis OlsenDirectors | Adelaide

adjournment of the winding up proceedings is not automatic as the court must be satisfied that it is in the bests interests of creditors that the SBR process continue.

Considerations

Some practical issues to consider when thinking about a SBR are:

1. Planning

The proposal phase of the SBR process is a relatively short period, providing 4 to 6 weeks for the director(s) to:

• ensure all lodgements and returns are made; and

• determine the proposal to creditors.

Practically, the ATO is the major creditor in the vast majority of SBRs undertaken to date and therefore their cooperation is vital to the success of a SBR.

In our experience, the ATO has requested copies of the following documents/ information when considering the company’s proposal:

• Financial statements for the last 3 years;

• Details of assets at the date of appointment;

• Copies of general ledger print outs for related party loans;

• Cash flow forecasts for the company (if still trading).

Furthermore, whilst the legislation provides that the Restructuring Practitioner only needs to provide creditors with a copy of the plan and a declaration as to whether the company will be able to comply with the plan, the ATO has also requested information as to the likely return to creditors if the company was to be placed into liquidation.

If the company hasn’t prepared financial statements for a few years, the costs associated with preparing the returns and financial statements will need to be considered.

The legislation also provides the company is required to “substantially” comply with the requirement to lodge returns. In our view, this means that only returns that are due at the date of the commencement of the SBR need to be lodged before the plan is sent to creditors. By way of example, if a company commences the SBR process on 31 July 2023, the

company’s income tax return for FY23 doesn’t need to be lodged as that isn’t actually due until the following year. The ATO has advised that in its view the:

• substantial compliance test applies to each tax return and lodgement; and

• company would need to demonstrate steps had been taken to meet lodgement requirements but factor outside of their control prevented them from doing so.

2. Employee entitlements

To be eligible for an SBR, the company must pay its employee entitlements. There is a very strict definition of employee entitlements in the legislation.

In respect of unpaid superannuation that is due and payable, in our view, the legislation does not provide that the company subject to the SBR process needs to pay anything other than the actual superannuation owed and interest thereon. This amount needs to be paid before the plan is sent to creditors.

Whilst the other components of the SGC are not required to be paid before the plan is sent to creditors, they are included in the amount owed to the ATO and as such must be factored into the assessment of the company’s liabilities being less than $1 million.

Example:

Superannuation Type Liquidation SBR

3. Personal guarantees

Personal guarantees will usually not be addressed by the SBR process. This will need to be considered as there is little utility in a company undertaking the process only to have its director(s) made bankrupt as a result of guarantees provided to creditors.

Lockdown DPNs will also need to be factored in as the ATO may elect to pursue these types of DPNs at any time, including years after the successful completion of the SBR process. Positively, the ATO has advised that for unlocked DPNs, the director penalty remitted on appointment of an SBRP cannot be reinstated (by the ATO) if restructuring plan is not accepted of terminated.

4. Related party creditors

The SBR process doesn’t allow for related party creditors to vote on a company’s plan, however any amounts owed to related parties are caught up in the SBR process and will receive a dividend at the same rate as other creditors in full and final satisfaction of their claims.

If related party debts are significant and are not intended to be compromised, the SBR process may not be appropriate.

5. Return to creditors

The ATO has expressed an intention to work cooperatively with practitioners when considering proposals and has offered to provide feedback on proposals before the proposal period expires.

The Australian Securities and Investments Commission (ASIC) prepared a report in January 2023 (REP 756) relating to 82 SBR appointments for the period 1 January 2021 to 30 June 2022. Of these appointments, 57 had the ATO as being owed greater than 50% of the total debt. Where the plans were accepted and dividends paid (as reported to ASIC), 63% of the dividends were for between 10 and 30 cents in the dollar.

In addition, any amounts owed in respect of directors or their relatives are capped at $2,000 per person.

Careful consideration of the unpaid employee entitlements and the company’s ability to make payment of same within the required period is vital.

In our experience, we have found a return between 20 (non-trading) to 30 (ongoing trading) cents in the dollar to be the “sweet spot”. This of course is not a guarantee and an assessment of the company’s circumstances is required when formulating the plan.

A

BANKRUPT'S

INCOMEHOW MUCH CAN A BANKRUPT EARN?

Daniel

- Associate Director | Sunshine Coast

One of the consequences of being declared bankrupt is that an assessment of the bankrupt’s income is undertaken for each year they remain bankrupt; commencing from the date of bankruptcy until discharge from bankruptcy.

A lot of myths surround the income contribution process. One such myth is that a bankrupt

cannot earn an income that exceeds a certain limit during their bankruptcy. This statement is not true.

There is no limit on the amount of money a bankrupt can earn during their bankruptcy.

Income assessments are conducted by using the following formula.

A bankrupt’s assessable income is sometimes different to their taxable income. Whilst salary and wages earned is part of a bankrupt’s assessable income, other funds or benefits received by a bankrupt may also be considered

Luckman

income for the income assessment (even where these amounts are not income for tax purposes) and certain deductions (which may be accepted for tax purposes) will not be permitted.

The Actual Income Threshold Amount (AITA) applicable for income assessments is indexed biannually based on the base pension rate (on 20 March and 20 September) and adjusted if a bankrupt has dependants on a sliding scale, depending on the number of dependants. The current threshold for a bankrupt with no dependants is $68,768.70 (after tax). A person is considered a dependant if they meet the criteria outlined in the Bankruptcy Act, which includes that they must currently earn less than $4,253 per year (this amount is also indexed).

If a bankrupt’s assessable income is less than the applicable AITA, no funds are required to be paid to their bankrupt estate. If a bankrupt’s assessable income exceeds the applicable AITA, they are required to make ‘income contributions’ to their bankrupt estate at the rate of 50 cents in the dollar (on the amount of assessable income that exceeds the applicable AITA).

So that poses a question: Should a bankrupt limit their income during a bankruptcy?

Bankruptcy is a process that allows individuals who cannot pay their debts to make a fresh financial start. The ability to earn an income is important to move towards building financial stability and future financial goals.

If a bankrupt has the capacity to earn an income that exceeds the appliable AITA, it makes sense for them to maximise their earnings and income. After all, even though a portion of their income may need to be paid to their bankrupt estate, the more money a bankrupt earns, the more funds they have available to meet their costs and expenses of living and to save for the future.

For example, Table 2 shows the income contribution assessments conducted on the basis a bankrupt has two (2) dependants at different levels of income.

As you can see from Table 2, although the bankrupt earning $125,000 per year is required to pay income contributions of $1,923.38 to their bankrupt estate, they are able to earn

COMMERCIAL TENANTS BEWARE

Are you or your client running a business from leased premises and are in arrears with rent? If so, are you aware that the landlord of a commercial premises is able to change the locks, lock the tenant out of the business premises and proceed to sell the assets located on site to recover rent in arrears?

In South Australia, this process is called ‘distraining for rent’ and is allowed under the Real Property Act 1886 (SA) and the Landlord and Tenant Act 1936 (SA). This process may not be applicable to other States and appropriate legal advice should be obtained in this regard.

There is a process a landlord (or their lawyers) must go through to distrain for rent including:

• issuance of a Warrant of Distraint to the tenant;

• preparation of an inventory of items distrained including serving the tenant with this list and affixing a copy to the front of the premises; and

• selling the tenant’s assets by public auction.

The auction proceeds will firstly be used to pay for all costs incurred in the distraint and sale. Next, the landlord is able to recover any rent outstanding. If there is a surplus, the landlord must then pay this back to the tenant.

Some issues to consider in the distraint process include:

• the landlord is limited to recovering rent only and not outgoings or GST;

• the landlord must be careful not to sell third party owned assets that may be located on site;

• the landlord is not able to distrain for rent if the lease has expired; and

• court proceedings are not required to distrain for rent.

The key take away is that where the lease is in arrears for outstanding rent, be aware that a landlord has a very quick and effective tool available to them to recover that outstanding rent, which could result in the landlord taking possession of the business via the distraint process.

*Figures current as at 22/9/2023 and may change in the future due to ongoing half-yearly indexation and retain an additional $14,226.63 (after tax and payment of the contributions) from their income in comparison to the bankrupt earning $100,000 per year.

If you or your client are facing personal financial difficulty, we encourage you to reach out to your local SV Partners’ office for advice on the impacts of bankruptcy and the income assessment process.

If a company or individual commences a formal insolvency/restructuring process pursuant to the Corporations Act 2001 or the Bankruptcy Act 1966, the landlord is restrained from utilising the distraint process.

Accordingly, should you or your client be seeking to undertake a formal restructuring process and have outstanding rent, it is vital that urgent advice is sought from a Registered Liquidator/Registered Trustee. Once the landlord distrains for unpaid rent there is little that can be done to regain access to the premises other than making payment of the unpaid rent and this may disrupt the ability to complete such a formal restructure.

If you or your client are in the position of not being able to catch up on your rent in arrears, please contact SV Partners for a free and no obligation meeting in order to explore options available to you to stabilise or improve your position in the best way possible.

Travis Olsen - Director | Adelaide

EFFECT ON RELATED PARTIES UNDER A SMALL BUSINESS RESTRUCTURING

Michael Carrafa - Executive Director | Melbourne

Small Business Restructuring (SBR) laws have been in play now under the Australian Corporations Act (Cth) 2001 since January 2021.

More recently, we were approached to advise a small business who is contemplating making an appointment of a SBR on the effect of related party claims.

Just to recap, in order to be eligible to undertake an SBR, the company must:

1. Ensure all taxation lodgements are up to date and lodged;

2. All employee entitlements paid up to date;

3. Creditors need to be under $1,000,000; and

4. The company must not have been subject to a SBR or a simplified liquidation in the last seven (7) years.

Also relevant, is that the company and the Restructuring Practitioner appointed have twenty (20) business days from appointment to devise a Restructuring Plan to be issued to creditors whereby creditors will vote to either accept or reject the plan. This is known as the Proposal Period. If a majority in value approve the Restructuring Plan, it passes. If the Restructuring fails, the company director will need to consider further options such as Liquidation or the appointment of a Voluntary Administrator.

Related parties are not entitled to vote under a SBR Restructuring Plan.

Some key definitions under CORPORATIONS REGULATIONS 2001REG 5.3B.01

"affected creditor" means:

a) in relation to a proposal to vary or terminate a company's restructuring plan--a creditor of the company who is a party (as creditor) to the plan; or

b) in relation to a proposal by a company to make a restructuring plan--a person who would be a party to the restructuring plan if it were made.

"excluded creditor" , in relation to a company under restructuring, means a creditor of the

company who:

a) is the restructuring practitioner for the company; or

b) was, at the time the restructuring began, a related creditor of the company; or

c) was, on becoming an affected creditor, a related entity of the restructuring practitioner.

"related creditor" of a company means a person who is a related entity, and a creditor, of the company.

So what is a Related Entity?

Section 9 of the Act defines a related entity of a body corporate as follows;

a) a promoter of the body

b) a relative of such a promoter;

c) a relative of a spouse of such a promoter;

d) a director or member of the body or of a related body corporate;

e) a relative of such a director or member;

f) a relative of a spouse of such a director or member;

g) a body corporate that is related to the first-mentioned body;

h) a beneficiary under a trust of which the first-mentioned body is or has at any time been a trustee

i) a relative of such a beneficiary;

j) a relative of a spouse of such a beneficiary;

k) a body corporate one of whose directors is also a director of the firstmentioned body;

l) a trustee of a trust under which a person is a beneficiary, where the person is a related entity of the first-mentioned body because of any other application or applications of this definition.

Takeaways

The definition directly above outlines the broad scope and operation of who and what is defined as a related entity therefore has far reaching impact on parties who can vote under a SBR Restructuring Plan.

In a recent case, the structure and shareholding of the group was as follows:

Company A - SBR

50%

Company B

100%

Company D (Creditor of Company A)

Company C Creditor of Company A

Company D Director, is the son of Company B

Direct

Company D, is a creditor of Company A, who intends to undertake a SBR

• Company A was considering an SBR with its creditors;

• Company C and Company D are creditors of Company A;

• The director of Company A relied on the claim of Company D (material to affect the outcome of the Restructuring Plan by voting in favour thinking that it was not a related entity of Company A.

• Company B is related to Company A by virtue of its shareholding in Company A.

• The director of company D is the son of the director of Company B and meets the Section 9 definition above therefore those entities are considered related.

• As a result Company B & D’s relationship, Company D may also be deemed related to Company A.

• Company C would also be a related entity by virtue of its shareholding in Company A.

Key Takeaway Points on SBR’s and Related Party claims for directors and advisors:

1. Clearly assess creditor claims to determine which creditors may be deemed related entities;

2. Seek independent legal advice or advice from a Director at SV Partners prior to considering undertaking an SBR.

SV Partners expands into North and Central Queensland

SV Partners is thrilled to announce our continued expansion into Central and Northern Queensland with the opening of our Townsville office and the appointment of two of regional Queensland's most prominent insolvency specialists.

Michael Brennan Director Dennis Offermans Senior Consultant