Personal Insolvency: An Overview of Bankruptcy

With the Australian Financial Services Authority (AFSA) reporting over 20,000 bankruptcies in the 2012-3 financial year, it is clear that none of us are immune to the constant economic pressures on daily life. From sudden unemployment and over-reliance on credit to relationship breakdowns and ill health, there are many reasons why people suffer financial hardship and experience unmanageable debt.

So what happens when a person goes broke? What advice is available for people facing bankruptcy?

Bankruptcy can either be voluntary or involuntary. There are also a number of formal creditor/debtor arrangements available under the Bankruptcy Act 1966 (Cth) (Act) in order to avoid bankruptcy which we will discuss below.

When Things Go Bust: Voluntary Bankruptcy

If an individual cannot pay their debts as and when they fall due, and haven’t been able to reach an agreement with creditors, they may declare themselves bankrupt by filing a Debtor’s Petition and Statement of Affairs with the body that governs personal insolvency, namely, AFSA.

The individual will need to identify all creditors, their contact details and the amounts owed to each creditor as well as details of their personal assets. A trustee will then be appointed to administer their bankruptcy by investigating their financial affairs and realising available assets in order to pay creditors.

A Forced Hand: Involuntary Bankruptcy

A creditor may take action to have an individual declared bankrupt by order of the Court (a sequestration order).

Involuntary bankruptcy occurs when a creditor who is owed more than $5,000 applies to the Court to have an individual declared bankrupt. Regardless of the debtor’s capacity to pay the debt, if the debtor does not defend a bankruptcy notice, they are deemed to be insolvent and can subsequently be made bankrupt.

For further details regarding methods of pursuing debts and bankruptcy notices, please click here.

Informal and Formal Debt Arrangements

To avoid being declared bankrupt, a debtor may enter into informal creditor arrangements, including reaching an agreement to allow the debtor further time to pay or for the creditors to accept a smaller lump sum in satisfaction of the debt.

Other more formal arrangements under the Act include:

Interim Relief

A mechanism to provide temporary relief from creditor enforcement, interim relief involves a declaration of the intention to present a debtor’s petition, allowing an individual 21 days to consider bankruptcy or other alternatives.

Debt Agreement

A debt agreement is a legally binding agreement under Part IX of the Act whereby a majority of creditors (in value) can accept payment of a sum of money that the debtor can afford or an instalment arrangement to satisfy the debt. If a debtor proposes a debt agreement, it is an act of bankruptcy. If the creditors do not accept the proposal, the creditors can use this act to apply to the court to have the debtor declared bankrupt which means that this type of action is not without an element of risk for the debtor.

The main criteria for debt agreements are:

  • Debtor must be insolvent, not previously declared bankrupt or subject to a debt agreement or given an authority under Part X of the Act in the last 10 years (this can be verified by the Official Receiver by searching the National Personal Insolvency Index, NPII)
  • Debtor must have unsecured debts and assets (ie, the equity on those assets or divisible property) less than the indexed amount, currently $106,561.00
  • Debtor’s after-tax income for the next 12 months must be less than the indexed amount, currently $79,920.75

A debtor should be aware that their ability to obtain credit will likely be affected by this type of arrangement and the debtor’s name and other details appear permanently on the NPII, which is a public record. On the upside, if creditors accept the debt agreement proposal, the debtor is not declared bankrupt and all unsecured creditors are bound by the agreement, paid in proportion to their debts. Secured creditors still have the ability to seize and sell assets in the event of debtor default and the debtor is protected from any action from unsecured creditors.

Personal Insolvency Agreement

A personal insolvency agreement (or PIA) is a legally binding agreement between the debtor and creditors for the debtor to pay the debt in full, by instalments or an agreed lump sum. Unlike debt agreements, no asset, income or debt limits apply to be eligible for this type of arrangement. A PIA is a flexible type of agreement to allow the debtor to avoid bankruptcy, and can involve a sale or transfer of assets to pay creditors, lump sum payments or repayment arrangements. A trustee is appointed to investigate the debtor’s financial affairs and administer the arrangement.

Declared Bankrupt: What Happens Then?

When you are declared bankrupt, your trustee will sell those assets that you are not allowed to keep to repay your creditors to the extent possible with the proceeds. The trustee will have access to your net income if it is above a certain threshold for payment to creditors.

There will be a permanent record of your bankruptcy on the NPII.

For further details please see our information on the impact of bankruptcy here.

How Long Does Bankruptcy Last?

The normal period of bankruptcy is 3 years from when the Statement of Affairs is lodged but this can be extended to 5 or 8 years if the trustee lodges an objection to discharge for failure to comply with the conditions of your bankruptcy. The bankruptcy can be annulled if the debts are paid in full (including interest, and the trustee’s expenses and fees), the creditors accept a payment proposal under s 73 of the Act or the bankrupt successfully applies to the court for an annulment.

For further details regarding the end of bankruptcy please click here.

Advantages of Bankruptcy

  • Unpaid unsecured debts will be written off at the end of the bankruptcy and wage garnishment will cease
  • Creditors can no longer pursue the bankrupt for payment and must deal with the trustee
  • The bankrupt’s goods are saved from seizure by the Sheriff (however, these may be dealt with by the trustee)
  • In certain situations, the bankrupt may be able to keep their home. Please click here for further details.
  • The bankrupt can still earn an income (with income contributions payable to the trustee if the bankrupt’s income exceeds the specified limit). Please click here for further details.
  • The bankrupt can keep necessary personal effects such as clothing, furniture and certain assets
  • Superannuation is protected (with some exceptions)

Disadvantages of Bankruptcy

  • The bankrupt must make divisible assets available for the Trustee to sell
  • The bankrupt cannot act as a company director or officer or trade under an assumed name or registered business name without disclosure of bankruptcy
  • The bankrupt must surrender their passport to the trustee and can only travel overseas with the trustee’s permission. Please click here for further details.
  • The bankrupt can only apply for credit up to the sum of $5,387 (indexed amount) after which disclosure of the bankruptcy to creditors must be made
  • The bankrupt’s credit rating may be affected
  • The bankrupt must surrender all books and records to the trustee.

For more information on bankruptcy or specific insolvency services, contact the team at Rapsey Griffiths on (02) 4929 3019 for a confidential consultation.