Disrupting Phoenix Activity

The term “phoenix activity” does not appear in statutes but has for many years been used to describe a sale of business assets to a related party for no consideration or less than market value with the intention of defeating creditors.

The Corporations Act 2001 and its predecessors, have for decades contained laws in relation to the breach of directors’ duties which should address improper phoenix activity.  However, the lack of enforcement combined with the low level penalties when prosecuted, can lead to directors making a value judgement that the benefits of such conduct significantly outweigh the risk of penalties.

Debts incurred to the Australian Taxation Office (“ATO”), in particular PAYG and GST have invariably been a liability that has all too easily been run up whilst available funds have been used by directors to pay the essential suppliers to keep an enterprise functioning; net wages, trade suppliers, leases and bank debts for example.

The ATO has in the past been behind the eight ball because some directors in control of a “phoenix operation” would simply elect not to report tax obligations as a means of flying under the radar and avoiding enforcement action by the ATO.  There have been many cases where companies have received an unfair advantage over competitors that are paying all of their creditors and have secured sales at lower prices because they were not paying business expenses like debts to the ATO.

The ATO has ramped up its arsenal of weapons combined with existing laws to combat businesses that seek to fly under the radar by avoiding compliance obligations.

The Commissioner currently can:

• Make directors personally liable for PAYG and superannuation debts if they fail to report the debts within three months of the scheduled lodgement dates.
• Issue garnishee notices on bank accounts and third parties that owe amounts to the company.
• Post Director Penalty Notices to addresses recorded on the ASIC database and to registered tax agents.
• Pursue repayment arrangements with the taxpayer.
• Issue statutory demands for payment of debts, whether reported or deemed assessments.
• Pursue directors for insolvent trading if a company is placed into liquidation.

The ATO and ASIC in conjunction with other stakeholders have been working on further reforms to address concerns over companies that aren’t afraid to keep trading when the likelihood that all creditors can and will be paid is becoming problematic.

The ATO and ASIC are also monitoring unqualified/unregulated pre insolvency advisers who appear to promote unethical conduct to the detriment of unsuspecting creditors.

Proposed solutions include:

• Introducing DIN’s – Director Identification Number. This would enable the tracking of directors conduct and avoid names being spelt differently.
• Provide that the date of lodgement represents the effective date of the change of directors. This would stop the ability to backdate the change of directors to avoid liability.
• Make directors personally liable for GST too by extending the director penalty notice regime.
• Establish a phoenix hotline.
• Extend penalties to capture advisors who assist phoenix operators.

Whilst there is a push to promote entrepreneurship through the recently introduced safe harbour laws and proposed legislation to reduce the period of bankruptcy from three years to one year, it is not intended to be at the cost of placing creditors in a more vulnerable position.

ASIC recognises and encourages that companies facing cashflow difficulties should seek out appropriate advice so that they can determine the appropriate course to chart.  An appropriate advisor can include a registered liquidator who can provide general advice in relation to the options available to the company and the implications of various courses of action.  A thorough registered liquidator will ensure that a board of directors is fully informed so that they can make an appropriate decision.

Dye & Co. has been for 40 years providing advice to boards of directors, company advisors and creditors in circumstances where cashflow difficulties exist or are imminent.  The ever-changing corporate regulatory environment means more than ever that that directors should be seeking out specialist advice at the earliest reasonable opportunity.