This month’s case study looks at a recent situation where the director had already put the company into liquidation on his former accountant’s advice prior to talking to de Jonge Read. The client engaged a new accountant for a new venture he was considering. When the new accountant heard what had happened, he contacted de Jonge Read and arranged a meeting to review the client’s position with the liquidation.
Our client ran a building company focusing on top-end residential construction and renovations. Due to the default of a major debtor the company ran into financial difficulties. As most people do, our client went to his accountant for advice. The accountant arranged a meeting with an insolvency practitioner that he had a good relationship with. The insolvency practitioner recommended his immediate appointment as liquidator.
We reviewed the available information and held an obligation free meeting with the client. What we found was:
Both the client and his wife were directors of the company.
The company had obtained a loan from a well-known non-bank lender that remained unpaid. Both the client and his wife had personally guaranteed the loan.
Most trade creditors held a personal guarantee from our client. A smaller number also had a guarantee for his wife.
Our client and his wife owned a property, with considerable funds contributed to the purchase by the client’s mother-in-law.
Our client owed a Division 7a loan to the company.
The client’s main fear was that he would lose the family home, and all that would mean for his wife and his family.
So, by being the director of the company the wife had been called on to sign a number of personal guarantees. It is a common creditor requirement that all directors sign personal guarantees. The client had not considered having one party as director and felt he was doing the right thing by having his wife as joint director. Ultimately though, this just exposed her to personal risk. A key take home here is that business owners need to carefully consider who should be a director of the company. A key consideration can be who holds the assets, such as the family home.
Now, that well-known non-bank lender had what are known as “caveatable interest” clauses in their credit agreement. This means that if they remain unpaid they have the right to lodge a caveat on any real property (e.g. the family home) in the name of the guarantor. In this case, both the husband and wife had signed this guarantee, which meant they faced the prospect of having a caveat attach to all their combined equity in the property. Once a caveat goes on a property it can be really had to get it off. Again, consider who should be a director and who should be signing personal guarantees.
When the company went into liquidation our client owed it a loan under Division 7a. This loan became immediately payable to the liquidator. Now, prior to liquidation, it may have been possible to reconcile this loan, or make arrangements to have it repaid from wages paid to the director. None of this was done, and now the client faced a claim.
SO, WHAT HAPPENED?
In a relatively short period of time the director and/or his wife received the following:
A letter from the liquidator demanding repayment of the Division 7a loan in the name of the client.
A letter from the liquidator making a significant insolvent trading claim against both parties.
A letter from the non-bank lender demanding payment and advising they had the right to lodge a caveat on the property.
The client was very surprised to receive these claims from the liquidator. A liquidator has a job to do and cannot just ignore valid claims that could result in a return for creditors. We understand that there is no such thing as a “friendly” liquidator. Liquidators are professionals and have a duty to creditors.
Normally we would have advised our client to raise additional finance against their family home to satisfy the non-bank lender, and to potentially settle any claims from the liquidator on a commercial basis. There was a problem with this though. Once a company goes into liquidation the director’s personal credit record is noted; “Director of a company under External Administration”. So, if our client applied for a loan against their family home this warning would come up. Banks will inevitably ask questions about what happened, and what it means.
In our experience banks are very reluctant to lend when they are unsure as to whether any claims will arise that may impact the client’s ability to make their home loan payments. So, the key take home here is – make sure you have all your finance arrangements in place before appointing an insolvency practitioner.
WHAT NOW? HOW DO I DEAL WITH THIS?
The biggest concern our client had was losing the family home, so this needed to be the focus. We reviewed the circumstances surrounding the initial acquisition of the family home. The client’s mother-in-law had contributed $100,000 towards the deposit with our client and his wife contributing $20,000 from their joint funds. There was no documentation around this, but the parties had agreed that the relative would have an interest in the property. The funds were not considered a loan or a gift by the parties.
We advised the client to seek independent legal advice. Based on this advice the agreement between the parties was documented according to their original intent. The solicitor believed the mother-in-law clearly held an equitable interest in the property, and subsequently arranged for a caveat to be lodged on the property to protect her interest. This caveat was lodged prior to any action being taken by the non-bank lender.
Now, while this is the topic for another case study, our client went bankrupt. Fortunately, the wife had not guaranteed all the trade creditors and was not subject to the Division 7a loan so was able to escape bankruptcy. The bankruptcy of the client dealt with the liquidator’s claim for the Division 7a loan and insolvent trading claim.
The next step was to negotiate settlements of the insolvent trading claim against our client’s wife. We were able to demonstrate that she held minimal equity in the property, given the mother-in-law’s equitable interest, and had no other significant assets. Insolvent trading claims are notoriously difficult and expensive legal actions for a liquidator to take. At the end of the day, this claim was settled on a commercial basis for a reasonable amount.
This left the non-bank lender. Our clients were unable to refinance, given the impact on their personal credit record, and had no way of stopping the lender from lodging a caveat on the property. However, given the prior caveat and the potential legal wrangling and headaches that may arise, the non-bank lender was prepared to enter into a payment program for the outstanding debt.
Our client was shocked to face all these claims after he felt he had done the right thing in appointing a liquidator. While he could have saved himself a lot of stress, and probably some money, by seeking specialist advice earlier, it is never too late to improve the outcome. In this case;
All claims by the liquidator were settled on reasonable commercial terms.
The mother-in-law’s equitable interest was documented and secured.
The client retained the family home.
To help your clients with some quasi insurance, consider these take homes. Your clients should -
Carefully consider who should be a director of a company and who should sign personal guarantees.
Understand what creditors have caveatable interest clauses and what this means for your client.
Make sure all financing arrangements are made before appointing an insolvency practitioner.
Get specialist advice as early as possible, but getting advice late is better than never getting it at all.