Australia: What Are The Pros And Cons Of Winding Up A Company That Owes My Business A Debt?

If a business owes you money, you have the option to have them wound up. Winding up a company that owes your business money is very serious. Businesses often only consider this option when all other debt recovery attempts have failed. This article will explain some of the pros and cons of winding up a company that owes you money.

When Is Winding an Option?

A company that owes you money is known as a debtor. You must meet a number of preconditions before you can commence winding-up proceedings against your debtor. These preconditions require that:

• your debtor is an ASIC registered company;
• the debt exceeds $2,000; and
• there is no genuine dispute in relation to the existence of, or amount of the debt the company owes you.

Once meeting these preconditions, you can commence the multistep process of winding up the company, which includes:

• issuing a creditors statutory demand to your debtor; and
• giving your debtor 21 days to make payment (or to file an application to have the creditors statutory demand set aside).

If the debtor fails to make the payment or file an application to have the creditor's statutory demand set aside within 21 days, the company will be presumed insolvent. You may then rely on the presumption of insolvency to commence winding up proceedings in a court of competent jurisdiction.

Temporary COVID-19 Arrangements

Temporary changes to insolvency laws are currently in place due to COVID-19. While your business can still issue a creditor's statutory demand, the time frame for compliance, and the minimum monetary thresholds have changed considerably.

These changes will remain in force until 25 September 2020, unless extended further.

What Are the Pros?

1. Motivate Your Debtor to Settle the Debt

Once you have wound up (or liquidated) a company, they cease to exist. If the directors of your debtor company wish to continue trading, they must take some action. In many instances, this will result in your debtor attempting to settle the debt owed to you if they have the means to do so.

2. Appointing a Liquidator

Appointing a liquidation over an insolvent company allows that independent registered liquidator to take control of the debtor company.

The liquidator will administer the company's affairs so that it can be wound up in an orderly and fair way to the benefit of creditors.

3. Liquidator's Powers

As the applicant creditor, you have the opportunity to choose which liquidator is appointed to the company. The role of a liquidator is to protect, collect and sell the debtor company's assets and to distribute dividends to creditors.

Liquidators have significant powers and responsibilities which include:

• investigating and reporting to creditors about the debtor company's affairs;
• taking action to recover any unfair preference payments (payments made to creditors in preference over others);
• taking action to set aside any uncommercial transactions;
• making claims against the directors for breaches of their director duties, including in relation to insolvent trading; and
• taking action in relation to illegal phoenix activity.

This list is not exhaustive.

What Are the Cons?

1. No Guaranteed Payment

Winding up a company does not guarantee that you will receive payment of the debt. There is a possibility that you will only receive a small portion of the debt owed to you. In some instances, you may receive nothing at all.

2. Difficult to Assess Your Debtor's Financial Position

Prior to commencing winding-up proceedings, there is no clear way of knowing:

• what funds or assets the company may own;
• the amount of equity held in any property or other significant assets; or
• the number of other creditors that are owed money or the amounts owed to them.

3. Other Creditors Might Receive Payment Before You

Your debtor company might owe a number of businesses money. Even if you initiated the winding-up process, you will not be paid in preference to other creditors. A liquidator has a duty to all creditors equally. Dividends are paid out in a clear order of priority, which is mandated by law as follows:

• the costs of the liquidation;
• secured creditors;
• any employee wages, salary or leave entitlements; and
• unsecured creditors.

Each category must be paid in full before the next category is paid. If there are insufficient funds to pay a category in full, the available funds are paid on a pro-rata basis (and the next category or categories will be paid nothing). This means that there is no guarantee that your debt will be repaid.

Is Settlement Still an Option?

You are able to negotiate and accept a commercial settlement at any time prior to the Court making a winding up order.

However, if you reach a resolution with your debtor and you choose to discontinue the winding up proceedings, another creditor can take steps to continue the proceedings in your place. In this scenario, there is a risk that any settlement payment you have received may later be deemed to be a preference payment, and clawed back by the liquidator to repay creditors in the priority order set out above.

Key Takeaways

It is clear that there are both pros and cons to consider before winding up a company who owes you money. Liquidation may:

• incentivise your debtor to settle their debts to avoid being wound up; or
• allow you to recoup some of your debts through the actions of a liquidator.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.