A Brief History of Personal Insolvency Agreements
A Personal Insolvency Agreement (PIA) is a formal arrangement for a debtor to discharge their debts without facing some of the consequences of bankruptcy. In short, a debtor appoints a controlling trustee and provides a proposal to creditors as an alternative to bankruptcy.
The controlling trustee examines the debtor’s affairs, reports to the debtor’s creditors and calls a meeting of the debtor’s creditors to consider the debtor’s proposal for a PIA.
PIAs have existed in one form or another since assent of the Bankruptcy Act 1966 (Cth) (the Act). The provisions surrounding the agreements are contained within Part X of the Act, and PIAs are interchangeably referred to as Part X’s or Part X agreements. Part X was intended to encourage flexible arrangements between debtors and their creditors and was often more cost effective than bankruptcy.
Part X of the Act was reformed in 2004 following a government review which identified a number of issues with Part X, including:
- a lack of disclosure requirements by debtors and controlling trustees which resulted in creditors making decisions contrary to their best interests due to lack of access to relevant information;
- a small number of controlling trustees were not acting impartially and / or lacking technical knowledge; and
- debtors inappropriately influencing the outcome of meetings.
In light of the misapplication of Part X these changes were ultimately necessary, particularly given the powerful capability of Part X to enable a debtor to extinguish their debts and avoid the consequences of bankruptcy. However, these changes came at a cost; the once informal and cost effective Part X arrangements were no more. Controlling trustees now had significantly increased investigative and reporting requirements.
Part X appointments were already in decline prior to the reform, primarily due to the introduction of Part IX Debt Agreements in 1996 and general creditor skepticism surrounding Part X agreements. Though, since the reform, Part X appointments have been in further decline and appointments in recent years are at record low levels.
Below are extracts of personal insolvency appointment figures from various years, which clearly evidence the decline:The continual decline may be attributed to a lack of interest by debtors. For debtors, one of the primary benefits of the previous system was that it limited the examination of their affairs. As it currently stands under a PIA, a debtor’s affairs are heavily examined over a relatively brief period. Additionally, the added scrutiny has also quashed prospects of successful proposals of debtors who were attempting to manipulate the process, further reducing the number of appointments.
Controlling trustees are also less inclined to undertake Part X appointments, knowing the costs of administering same can easily surpass their estimates should investigative requirements exceed their initial expectations.
Benefits of Modern Personal Insolvency Agreements
Upon reading the above, you may be questioning whether PIA’s still have any practical purpose. They still do, of course. However, their application is certainly niche. The following are some examples where, from a debtor’s perspective, a Personal Insolvency Agreement may be beneficial:
- the debtor has an extreme aversion to the stigma associated with bankruptcy;
- the debtor operates a business (either through a corporate entity, partnership or as a sole trader) and the debtor’s bankruptcy would be detrimental to the business operation;
- the debtor is a professional associated with a professional body whose terms stipulate its members may not be bankrupt; and
- the debtor wants to be released from their debts quickly.
Getting the Most Out of a Personal Insolvency Agreement
If you believe a Personal Insolvency Agreement may be beneficial to yourself or a client, I urge you to read on, as I discuss some pointers for maximising the prospects of a successful PIA.
Assisting the Controlling Trustee
A controlling trustee is required to provide a report to the debtor’s creditors containing the controlling trustee’s belief on whether it is in the creditors’ best interests for the debtor to execute a PIA or to be declared bankrupt.
In preparing this report, the controlling trustee will investigate the debtor’s affairs and determine the potential return to creditors under a bankruptcy and under the PIA. When conducting these investigations, the trustee will have a particular focus on the following:
- The debtor’s income – to determine compulsory income contributions the debtor would be liable to pay if they were declared bankrupt. Refer to our previous blog post for further information in relation to compulsory income contributions.
- The debtor’s assets – to determine realisable assets that would exist if the debtor were declared bankrupt.
- The debtor’s creditors – to determine the legitimacy of related party creditor claims.
- Voidable transactions – to determine whether any voidable transactions would be recoverable if the debtor were declared bankrupt. Please refer to our resource centre for further information in relation to voidable transactions in bankruptcy.
When considering a PIA, a debtor should step back and impartially inspect their affairs. The debtor should attempt to form a view on how a controlling trustee may interpret their affairs. This will allow the debtor to assess what information ought to be disclosed to their controlling trustee and also what a reasonable proposal to creditors may look like.
Some examples of questions the debtor should ask themselves include:
- would there be grounds for a bankruptcy trustee to deem their income as a higher amount? (This is an issue for another day)
- have they made contributions towards property which may give rise to an equitable interest in that property?
- are claims of related party creditors genuine and if so, is there conclusive evidence to support the claims?
- have they been party to any transactions which may be considered void against a bankruptcy trustee?
It is in a debtor’s best interests to be fully transparent with their controlling trustee and thereby, creditors. This has the benefit of reducing the costs of the PIA by limiting investigations caused by conflicting information. Additionally, when the Controlling Trustee’s report effectively ratifies information disclosed by the debtor, this provides creditors with an assurance that they can trust the debtor, thereby reducing doubt they may have surrounding the PIA.
Satisfying Creditors
As creditors are the ones who ultimately decide the fate of the debtor, it is wise for the debtor to put themselves in creditors’ shoes and assess the benefits of a PIA to creditors.
If a proposed PIA only provides a return which is a few cents per dollar higher than bankruptcy, creditors may not have an appetite to accept the proposal, simply out of principal. There are some methods which may be available to a debtor to bolster the return under a PIA and thus, increase its appeal.
A debtor may attempt to persuade bona fide related party creditors from participating in the PIA, thereby increasing the return to other creditors.
Alternatively (and perhaps most importantly), a debtor may make funds available under the PIA that would otherwise not be available. This may include contributions by family members and friends or assets that are exempt from recovery by a bankruptcy trustee. This could even include superannuation if a debtor is above preservation age.
In Summary
Although the prevalence of Personal Insolvency Agreements has diminished, they can still be useful in certain situations.
Debtors can expect to maximise the prospects of a PIA being adopted by creditors by being fully transparent with their controlling trustees and taking steps to maximise the return to creditors by seeking external funding or limiting related participation of related party creditors in dividends under the PIA.
If you believe a Personal Insolvency Agreement may be beneficial to yourself or a client, please call our office to arrange an obligation free consultation.
Article written by Brett Harron – Supervisor