In this month’s case study we look at a situation that we are starting to see more often and we believe is very topical in the current climate.
Our client, David, met with us a little over a year ago due to concerns he had over his company’s Australian Taxation Office (ATO) debt. At that time, he did not face any immediate pressure. Government assistance packages were in place and the ATO was not poking him. Why do anything? Now, a year later, David is back and he needs some help.
Background
David ran a small engineering business under a company structure. The business was impacted by Covid due to delays to projects being undertaken by his clients. Cashflow dried up and, like many businesses, the ATO debt started to build up. David’s accountant recommended he meet with us, as he had identified the tax arrears as a potential warning sign of trouble ahead.
At that first meeting a year ago the company position looked like this:
Assets
Workshop equipment $60,000
Debtors $50,000
Stock $10,000
Total $120,000
Liabilities
Creditors $40,000
ATO $130,000
Total $170,000
Deficit 50,000
Now, at this time, things may not have been desperate, but the warning signs are there. The ATO debt is significant, exceeding the total assets of the business, and David’s accountant knew it would be hard to manage this going forward.
David had not heard from the ATO though. He made his lodgements, and the debt built up, but he did not get any calls or contact. The company was receiving JobKeeper payments and there was not really any pressure to do anything straight away. David did what a lot of people in his situation would – nothing.
A year or so later….
The ATO are now owed around $55bn Australia-wide. During Covid they have been very supportive and have taken a passive approach to debt recovery. While the ATO are not being heavy handed by any means, they are starting to hit the phones again, seeking to engage with taxpayers to arrange payment plans. David got one of these phone calls.
While the ATO were not overly aggressive, David knew he was in trouble. If anything, his business was worse than it was a year ago. Major Government support packages had ended, but his business still had many of the same issues it had at the height of the pandemic. David was very concerned that he could not commit to a payment plan and realised that the ATO debt was just not going to go away.
At our next meeting the company’s position looked like this:
Assets
Workshop equipment 60,000
Debtors 20,000
Stock 10,000
Total 90,000
Liabilities
Creditors 60,000
ATO 190,000
Total 250,000
Deficit 160,000
David knew he now had to make a decision. His options effectively were:
Enter into a payment plan with the ATO and continue to trade as usual.
Close the business down and seek salaried employment.
Restructure the business and trade in the name of a new company.
After careful consideration, and discussions with his accountant, David decided he wanted to continue to trade the business as, without the legacy debt, both felt the business would be profitable. He was very concerned about his ability to maintain a payment plan with the ATO and was worried that after making some payments he would be in a situation that he could not continue. David decided to restructure the business and bring finality to the debts of the company.
The outcome
We assisted David with the restructure of the business. This means not only extensive project management, but also supporting David through the process. These situations can be very stressful for company directors and that personal support can be so important.
The goodwill and assets of the company were valued. An assessment was made of employee entitlements to be taken over by the new trading entity, with this amount to be offset against the purchase price. David and his wife then borrowed some money against their family home. They lent these funds to a new company and made sure they secured their loan on the Personal Property Securities Register (PPSR). The new entity then purchased the assets and goodwill of the existing company.
All monies received from the sale of the assets and goodwill were then distributed according to priority positions. In this case, this paid all employee superannuation in full. While David could have made a proportional distribution to remaining company creditors he chose to leave the remaining funds in the company bank account and appoint a liquidator to the company and have the liquidator make the distributions to creditors.
Downside of the delay
David is able to continue to trade the business, but there are a few downsides to delaying the decision. Creditors have increased, and not all of these will be paid out from the proceeds of sale. Some of these creditors have personal guarantees, and David will now need to deal with that.
The increase in liabilities may also leave David exposed to an insolvent trading claim by a liquidator. While it is likely David will receive a claim, these are difficult and expensive actions for a liquidator to take, but they will do so where they have a strong case and the director has significant personal assets.
With the ATO now calling, David has also reduced the time he has available to protect family assets, such as his equity in the family home. This may still be dealt with, but if he had started a year ago he would be in a better position now.
David is still going to achieve a good outcome because he decided to act when the phone rang. He could have done what a lot of people do – nothing. He could have waited for the ATO to progress their recovery action or apply more pressure. He could have waited until he got a Director’s Penalty Notice. He could have waited until he got a Creditors Statutory Demand from the ATO. While it is never too late to get good advice, often the earlier you act, the better the outcome.
Should you have clients or associates that you know are struggling with financial issues or need assistance in reviewing their business affairs in preparation for what’s around the corner, our team of Strategists would be pleased to discuss options that are available on how to best design and implement insolvency strategies.
Contact us now on p. 1300 765 080 | info@djra.com.au