Personal Insolvency Agreements (PIAs) are an alternative to bankruptcy. They are designed to bring about a better return to creditors of an individual who is insolvent than would result if the individual was to be declared bankrupt.
Benefits of a Personal Insolvency Agreement
- Flexible – there is freedom as to the terms of the proposal that may be put to the unsecured creditors, the terms of which can be changed if necessary during the course of the process;
- Compromises all unsecured creditors (known and unknown) in respect of provable debts, thereby providing a financial fresh start; and
- If the proposal is accepted by creditors the individual does not become bankrupt.
Risks of a Personal Insolvency Agreement
- Appointing a controlling trustee (see below) is an act of bankruptcy;
- In the event that creditors don’t accept the proposal, the individual is required to declare themselves bankrupt. If they fail to do so, a creditor may petition for their bankruptcy;
- The fact that a controlling trustee has been appointed appears on the National Personal Insolvency Index (NPII) which will also appear on the individual’s credit history;
- An individual cannot be a director of a company during the term of the PIA.
Process – How Does a Personal Insolvency Agreement Work?
- Individual appoints a Controlling Trustee to administer their affairs
- Controlling Trustee sends all known creditors notice of their appointment
- Controlling Trustee investigates the affairs of the individual and prepares a report to creditors
- Purpose of the report to creditors is to:
- Inform creditors of the individual’s proposal to address their debts;
- Compare likely return to creditors from the individual’s proposal and if the individual were to be declared bankrupt;
- Recommend to creditors whether the proposal should be accepted or not;
- Convene a meeting of creditors to vote on whether the proposal should be accepted
- Creditors resolve whether to accept the proposal. For the proposal to be accepted:
- > 50% in number of creditors represented at the meeting must vote in favour; and
- ≥ 75% in value of creditors represented at the meeting must vote in favour.
Personal Insolvency Agreements – A Case Study
A practising dentist, Dr Miles McCavity had a passion for grass roots cricket and organised a number of interstate cricket training camps for young people. Unfortunately, the training camps were not successfully marketed and significant losses were incurred. Unlike his primary occupation, Dr McCavity didn’t operate the training camps through a company, making him personally liable for the losses.
Dr McCavity attempted to pay the debts using various personal credit cards and loans, however the interest was significant and the monthly repayments severely impacted on his family’s life. Accordingly, Dr McCavity sought advice and chose to appoint a Controlling Trustee (CT) with estimated debts of $1,400,000.
The CT’s investigations into Dr McCavity’s financial affairs determined that:
- he did not own any properties and hadn’t done so for in excess of 15 years;
- his vehicle was under finance with the balance owing exceeding the value of the car;
- he was the director and shareholder of a number of trustee companies. He was also the beneficiary of the trusts, which were all discretionary. As such he had no entitlement (other than as an employee) to the assets within those entities;
- in the event of his bankruptcy, his income would be approximately $150,000 (before tax) per year, resulting in income contributions of approximately $60,000 over the course of the bankruptcy period which in the best circumstances would result in a return to unsecured creditors after fees of approximately 2 cents in the dollar.
Dr McCavity proposed that he borrow $150,000 from a related entity, that would otherwise not be available in the event of his bankruptcy and contribute that sum to a fund for distribution to creditors. It should be noted that related party creditors were to be excluded from claiming from the fund, which resulted in a larger amount becoming payable to unrelated unsecured creditors.
The CT’s report indicated that creditors would receive between 5 and 11 cents in the dollar should Dr McCavity’s proposal be accepted but if he was to become bankrupt, creditors would receive a minimal return. In the circumstances, the CT recommended that creditors accept the proposal on the basis that the estimated return was greater, more certain and timelier than should Dr McCavity become bankrupt.
Ultimately the creditors resolved to accept the proposal and received 11 cents in the dollar on their claims within 4 months of the CT being appointed.
As may be seen from the case study above, PIAs (learn more here) provide an opportunity for a commercial resolution of an individual’s financial difficulties.
Individuals and their advisors should be aware of the restructuring options available, especially in circumstances where related parties are willing to provide funds to them to assist with any financial distress.
We offer free, confidential, no obligation advice regarding personal insolvency options.
Article written by Alan Scott, Director & Stuart Otway, Director – SV Partners Adelaide