HHG Legal Group’s Building and Construction Special Counsel, Daniel Morris, and Director Murray Thornhill provide an overview of the long-awaited illegal phoenix activity legislation, that may provide hope for some unpaid creditors.
After two false-starts, the Treasury Laws Amendment (Combating Illegal Phoenixing) Act 2020 has passed through both Houses of Federal Parliament and most of its provisions have now come into effect.
The new laws are intended to combat the practice of stripping a company of its assets, officers and directors, by moving them, without any or adequate compensation or remuneration, to another entity being run by the same directors, officers and/or management team. The stripped company, left only with liabilities to its creditors without any assets or revenue to pay them, is then wound up in insolvency with the result that the rights of creditors, having no recourse to the assets moved to the new entity, are defeated.
Various and creative ways have been employed to give effect to these phoenixing schemes which often involve true management and control of phoenixed entities being placed in the hands of “shadow” officers and directors: i.e. individuals other than those officially appointed to such roles who exercise effective control of the phoenixed company “in the shadows”. Such an arrangement constitutes classic phoenixing where the power-brokers of the wound-up entity and the new entity are substantially the same.
Phoenixing has a substantial impact on Australia’s economy, estimated to cost Australia’s corporate creditors, including the Tax Office, more than $5 billion annually. The measures enacted to try and stem the tide of illegal phoenixing include:
- civil and criminal penalties, including substantial fines and jail terms of up to 10 years, for those who engage in or facilitate such activities;
- empowering ASIC, liquidators and company creditors to take certain legal action against those involved in phoenixing activities;
- entitling a company that has become insolvent as a result of, or in circumstances of, phoenixing, to recover assets of which it has been unlawfully divested, and/or their monetary value, from the persons or entities that have acquired those assets for less than either their “market value” or “best price reasonably obtainable”;
- in the alternative, where the divested assets have been sold to a third party purchaser without notice of any phoenixing activity, entitling the insolvent company to be compensated for the amount of value lost as a result of the divestment from those that did the divesting; and
- allowing for withholding of tax refunds, including GST credits, to be withheld in certain circumstances related to phoenixing.
Concerns have been expressed about the new legislation’s potential to interfere with lawful corporate restructuring arrangements. However, there would in our view seem to be sufficient provision for courts to intervene where necessary to open the way for legitimate restructuring, even where it might involve the actual or apparent movement of assets from a company in distress to related persons or entities for less than what may, on the available evidence, be regarded as its market value or “best price reasonably obtainable”.
Of course, one seeking to justify activity that might otherwise legitimately raise suspicions of phoenixing would need sufficient records and documentation regarding its restructuring efforts. But proper record-keeping is in any event a fundamental part of the duties of all company officers such that the need to rely on a well-kept paper trail should, it is suggested, be of little concern to responsible officers.
Provisions that empower ASIC to make findings of fact as to suspected phoenixing conduct and impose penalties based on those findings without involving the courts could potentially invite challenge on constitutional grounds.
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