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As interest rates and debt levels rise, many individuals and small business owners are feeling the pinch. Most will make it through with some belt-tightening, but some may need to take further action.
As a last resort, a debt agreement or bankruptcy may be an option. But what are the implications?
There are many reasons consumers and businesses are finding it harder to pay their bills, with pandemic closures, natural disasters and now an energy crisis piling on the pressure.
Figures from the Australian Financial Security Authority (AFSA) show in April 2022 there were 700 new personal insolvencies across the country, with the majority (61.4 per cent) being bankruptcies. Within these, 37.7 per cent were business-related bankruptcies.
But bankruptcy is not the only option. If you find yourself unable to pay your debts, you can also consider making a debt agreement, a personal insolvency agreement, or seeking temporary debt protection (TDP).
A TDP prevents creditors from seizing your assets or wages and gives you time to seek advice, while the other formal insolvency options (such as debt and personal insolvency agreements) are a longer-term answer for pressing financial problems.
The best-known formal insolvency option is bankruptcy. This is a legal process where you are released from most of your debts and can make a fresh start with your finances.
In 2020-21, around 6,800 Australians declared bankruptcy. This was 46.7 per cent down on the previous year, due largely to the special debt forgiveness rules in place due to COVID-19.
Although bankruptcy is tempting when you or your business are drowning in unpaid bills, it’s a serious step so please speak to us to understand the consequences before taking any action.
Once you file for bankruptcy, a Trustee is appointed to manage your ‘bankrupt estate’ and dispose of assets to pay your debts. If you earn over a set amount during your bankruptcy, you may be required to make compulsory ‘contributions’ from your income to your Trustee.
Bankruptcy has serious consequences. Your name will permanently appear on the National Personal Insolvency Index, which is likely to affect your ability to obtain credit in the future. When applying, you must inform any credit provider you are bankrupt and credit reporting agencies will keep a record of your bankruptcy for five years from the date you become bankrupt.
You are required to request written permission from your Trustee to travel overseas, even if it’s for work. Travelling without permission could extend your bankruptcy or result in a prison sentence.
Bankruptcy doesn’t stop you from working and normally the AFSA doesn’t inform your employer, but there are limitations when operating as a sole trader. Court permission is required to be a company director or manage a company.
Your Trustee may sell your assets to help repay your debts, although you are able to keep ordinary household goods, tools up to a set amount used to earn your income and vehicles valued under a threshold.
Once you are discharged from bankruptcy (which usually lasts for three years and one day), your creditors can’t recover any remaining pre-bankruptcy debts.
Bankruptcy doesn’t, however, release you from all your debts. If you have secured debts (such as a mortgage over your home), creditors have the right to take possession of your property even if you are in bankruptcy.
While most unsecured debts (such as credit cards, personal and pay day loans, utility bills and unpaid rent) are covered by bankruptcy, some debts must be paid. These include court-imposed penalties, child support and debts incurred after your bankruptcy starts.
If you declare bankruptcy, you still need to lodge a tax return and outstanding personal returns and Business Activity Statements must be filed.
The ATO ranks equally with other unsecured creditors, so if it’s one of your creditors, your Trustee will not necessarily pay this debt first. The only priority tax claims are unpaid Superannuation Guarantee Charge (SGC) debts if you have employees.
If your Trustee decides to sell some of your assets to clear your debts, this may create a capital gain or loss and the CGT event must be recorded in your annual tax return. The ATO may also offset any tax refunds you become entitled to against any tax, child support or family assistance debts.
If you are experiencing financial difficulties, please call us to discuss your options.