The latest on insolvency safe harbour reforms

There are two schools of thought on the insolvency safe harbour reforms.

Significant reforms to corporate and personal insolvency laws have divided opinion on safe harbour in Australia.

By Shabnam Amirbeaggi FCPA

Insolvent trading safe harbour reforms received royal assent on 19 September 2017. These amendments to the Corporations Act provide protection to company directors from liability for insolvent trading. The amendments apply to courses of action developed or taken before, at or after the commencement date, and to debts incurred on and from that date.

The safe harbour reforms

Prior to the change in law, a company director could be held liable for insolvent trading under section 588G(2) of the Corporations Act if:
  • they were a director at the time when the company incurred the debt
  • the company was insolvent at that time, or became insolvent by incurring the debt and
  • at that time, there were reasonable grounds for suspecting that the company was or would become insolvent.
The new section 588GA introduces a carve-out to section 588G(2) of the Corporations Act, enabling directors to avoid liability for insolvent trading on certain debts if, after suspecting insolvency, the directors initiate a course of action reasonably likely to lead to a better outcome for the company, rather than appointing an insolvency practitioner under traditional insolvency administration. Presumably this will also be in the best interest of creditors as a whole as well.

Differing schools of thought on safe harbour

There are two schools of thought on the introduction of safe harbour. Those in support declare that directors will take more risks to facilitate recovery of their company, leading to the rehabilitation of struggling companies, reduced job losses and retention of goodwill.

Those against argue that the traditional insolvent trading regime afforded unsecured creditors better protection and directors should not be encouraged to gamble with creditors’ money when a company is in distress.

From a creditors’ viewpoint, there is a material flaw in the safe harbour reform. There is no requirement to disclose that the company is in financial difficulty and no obligation to pay new debts as they fall due (excluding certain tax liabilities and employee entitlements). 

Related: Reforms to Australian corporate insolvency law are in the wind

This creates a “get out of jail free” card for directors to play against future claims of insolvent trading. Potentially, it encourages insolvent companies to continue to trade, which increases the risk of creditors receiving a preference payment.

Certainly, creditors who are aware that a company is in safe harbour lose one of the defences available to them for a preference claim. The defence of “good faith” fails when a creditor is aware that the company is insolvent and restructuring via safe harbour.

What this means for accountants

This is a significant issue for accountants, who will typically be called on to give advice during the safe harbour process.

Accordingly, to avoid a potential preference claim, it is important to ensure you are paid in advance for continuing to provide services, rather than on credit. 
From a creditors’ viewpoint, there is a material flaw in the safe harbour reform.   

The safe harbour reforms are fresh, but vigilance in providing credit is a key to the financial viability of any business. Continually monitoring the merits (or otherwise) of offering credit is integral to the safe harbour legislation because, sooner or later, everyone has clients that go pear-shaped.

Harmonisation of industry laws to date

The Insolvency Law Reform Act 2016 (Cth) [ILRA] aims to harmonise the insolvency industry with changes mirrored in the Bankruptcy Act 1966 (Cth) (Bankruptcy Act) and Corporations Act 2001 (Cth) (Corporations Act).

Key changes cover the handling of moneys, creditors’ rights to information, the conduct of creditors’ meetings, communications and reporting processes, and court and regulatory powers.

Essentially, the changes intend to:
  • remove unnecessary costs and increase efficiency in insolvency administrations
  • align disciplinary frameworks that apply to registered liquidators and registered trustees
  • align a range of specific rules in the handling of bankruptcies and external administrations
  • enhance communication and transparency between stakeholders
  • improve the powers of the corporate watchdog (ASIC) to regulate insolvency practitioners and introduce an ability for personal and corporate regulators to communicate in relation to insolvency practitioners 
  • promote market competition on price and quality
  • improve overall confidence in the professionalism and competencies of insolvency practitioners.
However, the most significant change is that creditors are now empowered to direct insolvency practitioners in ways that are substantially more proactive. They have power to remove a practitioner from the administration, request “reasonable” information and a review of the external administration or estate.

The changes are particularly notable because they might encourage greater transparency in the insolvency industry by effectively altering the balance of power between creditors and insolvency practitioners.

Shabnam Amirbeaggi FCPA is an official liquidator and trusteee in bankruptcy and managing partner at Crouch Amirbeaggi.

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October 2021
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