The draft of the latest tranche of insolvency law reform announced in the May 2018 budget has beefed up director penalties, created new offences to tackle illegal phoenixing and included unpaid Goods and Services Tax obligations in directors’ personal liabilities.
Protection against personal liabilities by the ‘corporate veil’ (corporate personality and limited liability) was extended to directors of micro, small and medium enterprise (SME) by the 1892 case of Salomon vs Salomon & Co[i]. It has been a successful defence but one that unscrupulous operators have used to cover fraudulent schemes, for example, the 1970s ‘bottom of the harbour’[ii] schemes and more recently, illegal phoenixing.
As insolvency is a necessary feature of these schemes, but is also a genuine risk for honest businesses, several waves of insolvency law reform have attempted to address the shonky operators behind corporate veil.
Insolvent trading was introduced in the States Companies Codes and then consolidated into current statute, The Corporation Act in 2001 introducing director liability and disqualification for incurring debts and trading while a company is insolvent[iii].
By 2012 the directors’ penalty regime was extended to include personal liability for Pay As You Go (PAYG) withholding and Superannuation Guarantee (SG)[iv] (Tax Laws Amendment (2012 Measures No. 2) Act 2012).
Australian insolvency law has earned a reputation as one of the most punitive in the world.
Currently, directors may be personally liable for company debts including those incurred:
- when a company is insolvent, or which cause the company to become insolvent, and
- by failing to meet PAYG withholding and SG obligations. The director penalties are equal to the unpaid amounts of PAYG and SG.
A director who fails to prevent the company incurring these, and other, debts, or who engages in illegal phoenix activity, may also be charged with a criminal offence and incur a $200,000 fine, or be imprisoned for up to five years, or both. They may be ordered to pay up to $200,000 under a civil penalty provision, be liable to compensate the company for loss or damage and/or be prohibited from managing a company.
Safe harbour provisions were introduced in the Treasury Laws Amendment (2017 Enterprise Incentives No. 2) 2017 Act, offering directors a modicum of protection to trade during insolvency without fear of criminal or civil penalties, where it is an attempt at business recovery.
The fun has continued but with more stick than carrot.
The draft anti-phoenixing measures announced in May include new phoenix offences prohibiting creditor defeating dispositions of company property, the prevention of directors backdating resignations or resigning where this would leave the company without any directors, and, making directors personally liable for GST (also WET and LCT) in certain circumstances.
Engaging in conduct that results in – or procuring, inciting, inducing or encouraging – a company to make a creditor-defeating disposition (where property is made unavailable to meet creditor’s demands) is a criminal offence and civil penalty provisions apply.
The penalties for contravention of the new offences are:
- 4,500 penalty units or three times the benefit gained, or imprisonment for 10 years, or both (for individuals)
- 45,000 penalty units, or three times the benefit gained, or ten per cent of the entity’s annual turnover (for corporations)
ASIC can seek a penalty of up to $200,000 or a disqualification order for breaches of a civil penalty provision. Liquidators and creditors can seek compensation from company officers and facilitators who have contravened (but not necessarily been convicted or penalised for) a creditor-defeating disposition offence or civil penalty provisions.
More recently ASIC has invited registered liquidators to become members of a panel of “reviewing” liquidators, which ASIC intend to engage and fund to investigate possible illegal phoenixes. ASIC has advised that the funding provided to the liquidators selected will be between $20,000 to $100,000 per assignment, providing sufficient funding to the liquidator to conduct a thorough investigation of all parties potentially involved.
Directors are now firmly in the sights of numerous government agencies through data-sharing[v]. As penalties increase and the protection of the corporate veil decreases, it is essential that SME operators receive timely and professional advice to avoid inadvertently becoming liable for penalties, prosecution or disqualification under the tougher penalty regimes.
More importantly for Corporate Advisers of all kinds, our company Regulators, including ATO, OSR and ASIC have formed educated and experienced Phoenix Teams, who are actively collecting and sharing data, using sophisticated software tools to identify not only directors they believe to be phoenix offenders, but also the advisers and agents they use, including pre-insolvency advisers, insolvency practitioners, external accountants and solicitors – making it more important to use reputable practitioners to provide advice to your clients.
Shaw Gidley has recently assisted ASIC prosecuted a director for an illegal phoenix. So we can confirm that the Regulators are getting smarter in the process, are investing more resources and have shown increased willingness to assist the liquidator by providing the necessary funding and intelligence to give the prosecution an good chance of success.
Shaw Gidley are experts in restructuring, turnaround and insolvency and provide free initial advice on these matters. Please contact our offices on (02) 4908 4444 or (02) 6580 0400.
[i] Villalta Puig, G (2000). A two-edged sword: Salomon and the Separate Legal Entity Doctrine. Murdoch University Electronic Journal of Law. Vol 7, 3 (September 2000). Retrieved from https://classic.austlii.edu.au/au/journals/MurUEJL/2000/32.html
[ii] Anderson, Helen — “Illegal Phoenix Activity: Practical Ways to Improve the Recovery of Tax”  SydLawRw 10; (2018) 40(2) Sydney Law Review 255. Retrieved from https://www.austlii.edu.au/au/journals/SydLRev/2018/10.html