Big Change for small business: the proposed ‘debtor in possession’ model

Last week the Federal Government announced it would be introducing reforms to the current insolvency regime directed at streamlining insolvency processes for small business. It proposes to usher in an alternate method of restructuring to the voluntary
administration process, and simplified liquidation procedures. Here we breakdown the key elements of the proposed “debtor in possession” model.

The proposed reforms will include a debt restructuring process which will simplify regulatory obligations. This process will provide pathways for distressed small businesses that would otherwise fail due to the costs and the loss of control associated with a restructure and ensure they correspond with the structure and needs of small businesses.

The new model is a variation on the existing voluntary administration process under the Corporations Act 2001. To facilitate these modifications, a new special-purpose practitioner, the “small business restructuring practitioner” will be introduced to review and certify the restructure process to creditors and oversee disbursements once the process is in place.

Key takeaways on the ‘debtor in possession’ model:

An eligible small business must:

•  Be an incorporated business;
•  Have liabilities of less than $1million; and
•  Have paid any employee entitlements.

The role of the restructuring practitioner will be to

• Help determine if a business is eligible;
• Support the business to develop a plan and review its financial affairs;
• Certify the plan to creditors; and
• Manage disbursements once the plan is in place.

The ‘debtor in possession’ model will mean that business owners will:

• Trade in the ordinary course of business while a restructure plan is being developed;
• Work with the practitioner to develop and put forward the plan; and
• Provide information about the business’s financial affairs to the practitioner.

Support available for small businesses where a small business restructuring practitioner is not yet available:

• An eligible small business will be able to declare its intention to access the restructuring process through the ASIC website and continue to access the current temporary protections which will apply to the business for a maximum period of 3 months, until a practitioner becomes available.
• Support will continue to be available until 31 March 2021.

With the recent extension of the temporary insolvency measures introduced by the Coronavirus Economic Response Package Omnibus Act 2020 until 31 December 2020 (from 25 September 2020), this additional three months until 31 March 2021 under this potential new reform is not insignificant. However, it has been recognised that there is scope for misuse (or abuse) of these provisions and protections have been identified to prevent this process from being used to facilitate corporate misconduct such as illegal phoenix activity including:

• Prohibiting related creditors voting on a restructuring plan;
• Barring a business or its directors from using the process more than once within a Prescribed period (proposed at 7 years); and
• Empowering a practitioner to stop the process where misconduct is identified.

The protection of the rights of creditors will be proposed to be dealt with via the role of the practitioner remaining independent and being obliged to act on behalf of the creditors and having those creditors retain the right to vote on the business’s proposed plan.

The Government seeks to legislate these reforms by 1 January 2021, in time for the expected wave of insolvencies after the temporary insolvency and bankruptcy protections expire on 31 December 2020. These reforms aim to enhance the rate of successful restructures as well as assist small businesses that will likely enter into external administration once the temporary protections end.

As for the simplified liquidation procedures, the same threshold for incorporated businesses is proposed to apply (ie less than $1,000,000 in liabilities). We will examine the key features of the proposed simplified procedures in our next update.