28 Feb 2021

Trust companies and insolvency reform


3 min

The cost of a missed opportunity.

The recent government reforms were designed to reduce the cost of external administration for small businesses and allow more small businesses to remain viable. While the full impact of these changes is yet to be seen, as uptake to this point has been slow to non-existent, the reforms appear to have been a missed opportunity for relatively simple changes. In our view, those changes would greatly impact reduced costs—and critically—increased returns to creditors.

Trading trusts have long been an ubiquitous feature of modern business practices. Inherently, they present complexities for external administrators that have a flow-on effect to company creditors especially in cases where assets are present.

Trust deeds typically have termination clauses that trigger upon some form of external administration. The termination clause’s effect severs the company’s role as trustee of the trust resulting in the assets being held as bare trustee by the company liquidator. The complexities the termination clause brings is murky and uncertain territory surrounding the external administrator’s power to deal with and ultimately realise the trust assets for creditors’ benefit; and being reimbursed for the external administrator’s reasonable costs and expenses in doing so. The usual path in these circumstances is for one of the following two options.

Option 1: Remove the termination clause by amending the trust deed prior to appointment.

Option 2: Apply to court for necessary directions.

While option 1 is clearly the cheaper and quicker alternative it comes with two provisos:

  1. The trust deed is available, and/or

  2. the appointment was not commenced by a court winding up petition.

Both of the above takes option 1 off the table.

However, this option has not been fully tested in court save for Judges passing comments that question if making changes to trust deeds shortly before an external administrator being appointed passes “the pub test”. This leaves a shadow of concern ever present and a constant risk that an aggrieved party will test this alternative.

Therefore option 2 often becomes the preferred path for risk-adverse insolvency practitioners. The downside is that this application can often be:

  • cost prohibitive due to the court requesting more onerous disclosure requirements and/or the application’s cost exceeding the value of assets realised; and

  • a slow and drawn-out process while hearing dates are set leading to further costs being incurred.

The ultimate effect? Reduced or in some cases no ultimate return to creditors after satisfying the application costs. Clearly not the desired result anyone wants.

So, for the government to enable lower-cost liquidations that result in increased returns for creditors/employees, we for one, see the above case one example of a missed opportunity to make real change. Arguably, introducing Commonwealth Legislation to remove uncertainty for trust-structured companies in external administration could have been easily achieved given the onslaught of omnibus bills that parliament considered in response to the COVID-19 economic pandemic.

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