Australia: The timely rise of illegal phoenix actiivity reforms - changes to the Corporations Act

The reforms proposed to combat illegal phoenix activity range from light-touch through to more significant changes to the Corporations Act.

The Federal Government has released a consultation paper outlining proposed reforms to combat illegal phoenix activity. We welcome the release of the consultation paper as the issue of illegal phoenix activity, while discussed over the years, continues to be an ongoing issue. The consultation paper covers issues relating to corporate governance, insolvency and tax laws. This article focuses on insolvency law.

The proposed changes will, to a varying extent, affect insolvency practitioners, restructuring advisers, company directors and creditors. Submissions relating to the consultation paper are due by 27 October 2017.

What is illegal phoenix activity?

There is no legal or statutory definition of phoenix activity. That said, phoenix activity is a term that is often used in the context of a transfer of assets from one company to another to deliberately avoid paying creditors in circumstances where there is a link between the two companies. Commonly, the new company will have a similar name, management and ownership to the company that has been wound up.

There are two main types of illegal phoenix activity and these have become a focus for regulators.

  • Pre-insolvency advisers may approach directors of a failing company and suggest phoenix activities as a way to save the business. For example, pre-insolvency advisers might suggest asset sales or restructures that will defeat creditors' interests. The company is left as an empty shell with no assets to ultimately be liquidated.
  • In some more sophisticated cases, companies adopt phoenix activity as a business model from the outset. The directors of such companies never intend to pay trade creditors and other liabilities and, from the beginning, intend for the company's assets to eventually be transferred to another company. This gives an unfair commercial advantage to those that engage in such behaviour.

What is being proposed?

The consultation paper proposes a number of reforms to address and combat illegal phoenix activity. Some proposed reforms are light-touch, such as the introduction of a "phoenix hotline", while others are more significant, such as establishing a system for identifying entities at risk of engaging in phoenix activity and changes to the Corporations Act to deal with phoenix activity.

Identifying phoenix behaviour

The Federal Government has recognised the need for a mechanism to identify and target high risk individuals and entities, in particular those who may have adopted phoenixing as a business model. The inclusion of a statutory definition of illegal phoenixing has been considered, however the general consensus is that it is too challenging to strike a balance between a broad definition that may capture legitimate business turnaround and restructuring, and a narrow definition which may not capture more calculated and egregious behaviour.

Rather than attempting to include a statutory definition of illegal phoenixing, the consultation paper outlines a two-step process for identifying entities that are potentially engaging in phoenix operations by:

  • designation as a Higher Risk Entity (HRE) which would be an objective test where entities are automatically "designated" once certain thresholds are met (eg. where an individual has previously been disqualified from managing a corporation or has committed a "phoenix offence"); and
  • declaration as a High Risk Phoenix Operator (HRPO). The Commissioner of Taxation would have the power to make such a declaration and apply regulatory measures accordingly.

The consultation paper acknowledges that there is a risk that the first step may capture individuals or entities that were involved in a legitimate business failure. To address this, it is proposed that designation as a HRE be a prerequisite to being declared a HRPO. The ramifications of being declared as a HPRO are not settled, however one option that has been put forward is the introduction of a "cab rank system" for the appointment of a registered liquidator to that company.

In our view, this two-step process is sensible but will not be seamless. The second step will require careful deliberation by the Commissioner of Taxation and its implementation will need to be managed by having appropriately qualified and experienced people involved in the decision-making process.

Phoenixing offence

Currently, there is no specific offence for illegal phoenix activity. Illegal phoenix activity is, however, generally captured by civil or criminal breaches of directors' statutory duties.

The consultation paper proposes amendments to the Corporations Act to specifically prohibit the transfer of property from one company to another if the main purpose of the transfer is to avoid paying creditors.

It has also been proposed that existing Corporations Act provisions be designated as phoenix offences. As noted above, this will lead to designation as a HRE. For example, a failure to keep correct records that would enable true and fair statements to be prepared may be designated as a phoenix offence (section 286(1)).

Cab rank system for appointment of liquidators

A registered liquidator may be appointed as an external administrator of a company as a:

  • voluntary administrator;
  • deed administrator of a deed of company arrangement;
  • member or court appointed liquidator; or
  • provisional liquidator.

Many of these appointments are initiated by the company directors and engaged by way of referral by a pre-insolvency adviser. Often, illegal phoenix activity is orchestrated where unscrupulous pre-insolvency advisers create relationships with registered liquidators who, together, are willing to prioritise the interests of their client over those of the company's creditors.

A cab rank system has been recommended where a registered liquidator would be chosen on a "next-cab-off-the-rank" basis in certain circumstances to minimise the risk that advisers, liquidators and directors collude to avoid payments being made to creditors. This would mean that generally, liquidators would be obliged to accept appointments. Liquidators would have the opportunity to refuse appointment for reasons such as lack of time or expertise, much like barristers.

It is proposed that the cab rank rule would apply only where an officer of the company is, or was (during a certain period), a HRPO. However, the Federal Government has asked whether the cab rank system should apply to all external administration appointments. The consultation paper does not address who should manage the cab rank system or how it should be administered.

Another option that has been put forward in the consultation paper is the introduction of a "government liquidator" to conduct streamlined external administrations of small-to-medium sized enterprises. Private registered liquidators would be appointed in appropriate situations.

The aim of the proposals is to provide company directors with independent and impartial advice on the company's financial position and available options, thereby maintaining market integrity.

Other ideas for reform

Director identification number

While not included in the consultation paper, the Federal Government recently flagged the possible introduction of director identification numbers. The introduction of a mandatory director identification number for all existing and new directors would assist regulators to identify and monitor individuals that are repeatedly involved in phoenix activity.

Reports as to Affairs (RATA)

Another option that has been mooted for reform but is not dealt with in the consultation paper is using the RATA as a tool to warrant further investigation into possible illegal phoenix activity. A RATA is a mandatory report usually drafted by the company directors that must be prepared in certain circumstances (such as the commencement of liquidation of a company) and includes details of the company's financial position. The statutory requirements for RATAs could be amended to include an obligation to report on historical behaviour of directors or the company that may constitute illegal phoenix activity (with appropriate penalties for not disclosing this information). The provision of such information could be used by a liquidator as a catalyst for investigations where a liquidator is suspicious of the company's activities.

What next?

The Federal Government will assess feedback received during the consultation period and the next stage will hopefully be legislative reform. We will continue to monitor for any developments in this area.

RELATED KNOWLEDGE

Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this bulletin. Persons listed may not be admitted in all states and territories.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Topics
 
Related Articles
 
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions