Phoenix or Phoney? When is Phoenix Activity Legit or Fraudulent?
Here’s the scenario: A company fails, and is placed into Liquidation or Administration. And then suddenly another company with a very similar name starts trading, often providing the same or similar goods or services.
You may have seen something like this happen during your career. And you may have been wondering: Is this fraudulent phoenix activity?
Maybe, maybe not. There’s a big difference between fraudulent phoenix activity to avoid tax and other liabilities, and a business genuinely resurrecting itself using a new corporate structure.
So what is illegal phoenix activity?
Interestingly, there’s no legal definition of fraudulent or illegal phoenix activity.
The Australian Securities and Investment Commission (ASIC) and the Australian Taxation Office (ATO), the major players in investigating illegal phoenix activity and enforcing penalties, use these definitions:
Australian Taxation Office (ATO)
“We define fraudulent phoenix activity as the evasion of tax and or superannuation guarantee liabilities through the deliberate, systematic and sometimes cyclic liquidation of related corporate trading entities”.
Australian Securities & Investments Commission (ASIC)
“Phoenix activity involves the systematic act of transferring assets from an indebted company that has or will be wound up, into a new corporate structure that has the same directors or company officers. As a consequence of this conduct, the directors or company officers avoid paying outstanding liabilities owed to creditors, employees and statutory bodies incurred by the company that has been wound up, while continuing the same or similar business activities using the newly established company.”
As liquidators, we often need to determine whether fraudulent phoenix activity has taken place. So when we’re investigating we use those definitions, along with these key indicators:
- Illegal or fraudulent intent to avoid tax and other statutory obligations
- Related corporate trading entities that don’t have any asset being liquidated systematically and sometimes in regular cycles
- Evidence the Directors of the company have deliberately incurred debt before the company transfer, with no expectation of the company repaying the debt
- A group of companies has been intentionally structured to:
o avoid meeting certain statutory obligations
o avoid other creditors
o stream profits to other members of the group.
• Physical assets, contracts or supply agreements have been transferred from the debt-laden entity to a new entity for little or nil value
Here’s a theoretical example of fraudulent phoenix activity…
A large labour hire business with minimal or no assets intentionally structures its operations across a web of related companies. The group’s assets are held in different entities, and there’s no commercial agreement between the employing entity and the other entities within the group.
The employing entity fails to pay employees’ superannuation, workers compensation premiums and outstanding tax.
The employing entities are then liquidated and the workforce is transferred into new entities and continues to trade.
In this case, the group has intentionally left behind unpaid taxes, superannuation and workers compensation debt.
But while some companies may be deliberately committing fraud, it’s not always the case. Businesses can simply fail, and the reasons for the failure may be beyond the Directors’ control. If that’s the case, they shouldn’t be prevented from starting another entity and trying again.
The regulators consider it a legitimate use of the corporate form when a business that’s been managed responsibly fails, and the business subsequently continues trading in a similar form using another corporate entity.
In many cases, when a business is placed into liquidation or administration, the assets of a business (or the business itself) are more valuable to the company Directors than they’d be in the open market. This is because in most cases the Directors hold the goodwill of an SME personally. Accordingly, a liquidator or administrator would get better value selling the assets or business to a related party looking to continue the company’s business.
In our next post we’ll explore an example of using the corporate form to legitimately restructure and insolvent company or business.
If you have any questions about the legitimate use of new entities in a business recovery process, feel free to contact us. We’ll give you straight answers and we enjoy the process and challenge of helping turn businesses around. Our aim is to explore all options to allow everyone involved in the business to continue their business journey on a better footing.