Personal insolvency agreements - the preventative approach

Being proactive goes a long way in negotiations.

Recently, our On the Pulse articles have looked at enforcement action undertaken by the Australian Taxation Office (ATO), including their recent use of Director Penalty Notices (DPNs). Our recent articles have covered such topics as:

• What is a DPN and how a DPN can arise.

• What steps Directors can undertake to deal with a DPN, if received.

For new readers, I encourage you to check out the above linked articles for a refresher on DPNs.

For those Directors who have received a DPN, this article will explore what steps can be taken to discharge tax liabilities arising from DPNs which have “locked down”. This includes how a personal insolvency agreement (PIA) can be an effective tool to deal with personal tax liabilities arising from a DPN, including potential liabilities for tax liabilities from a DPN which have not yet been issued.

What is a PIA?

A personal insolvency agreement (PIA) is a formal arrangement between a debtor and their creditors under Part X of the Bankruptcy Act 1966. It allows individuals to settle their debts without entering bankruptcy.

• Key features of PIAs include:

• They are flexible and can be tailored to the debtor's specific circumstance.

• Creditors must vote to accept the proposed agreement.

• Once accepted, it binds all unsecured creditors.

• The agreement is managed by a trustee

Official Practice Statement 8

Recently, the Australian Financial Security Authority (AFSA) has released Official Practice Statement 8, which provides guidance on the exposure of personal tax liabilities arising from DPNs and how they are dealt with in the context of the personal insolvency framework (Bankruptcy Act 1966):

"Where the director of a company has been issued with a director penalty notice (for example, for unpaid superannuation guarantee charge), the director is liable for the debt and not the company. A debt arising as a result of a director penalty notice is provable in bankruptcy and extinguished, including where the director penalty notice is issued after the date of bankruptcy in relation to a company liability that was due before the date of bankruptcy."

Proactive approach and broad scope

As noted above, one significant advantage of a PIA is its ability to potentially capture and resolve tax debts associated with DPNs that have not yet been issued.

By entering into a PIA before DPNs are issued, directors may be able to address potential personal liabilities pre-emptively and the agreement can cover both existing tax debts and anticipated liabilities, providing a comprehensive solution.

Process and considerations

To effectively use a PIA to address potential DPN liabilities:

1. Early action: Directors should seek professional advice as soon as they become aware of company tax debts that could lead to DPNs.

2. Full disclosure: It's crucial to provide complete information about all potential liabilities when proposing the PIA.

3. Negotiation with ATO: The terms of the PIA will need to be acceptable to the ATO as a major creditor (in the majority of cases).

4. Creditor approval: The proposed agreement must be accepted by a majority of creditors representing at least 75% of the debt value.

5. Ongoing compliance: Directors must adhere to the terms of the PIA to maintain its protective effects.

Benefits and Limitations

Benefits:

• Can provide relief from both existing and potential future DPN liabilities

• Allows for a structured repayment plan

• May prevent bankruptcy

Limitations:

• Does not protect against "lockdown" DPNs for unreported liabilities

• The ATO may still issue DPNs for debts not covered by the PIA

• Creditors, including the ATO, must agree to the terms

PIAs offer a proactive strategy for directors facing potential DPN liabilities. By addressing tax debts comprehensively, including those that may result in future DPNs, PIAs can provide an effective strategy to resolve financial difficulties while avoiding more severe consequences like bankruptcy. However, their effectiveness depends on timely action, full disclosure, and successful negotiation with creditors, particularly the ATO.

Given the complexity of tax law and insolvency procedures, directors considering a PIA should seek expert advice from their local Worrells Principal to ensure the best possible outcome.