Bankruptcy in Australia: What You Need to Know
Being under financial duress is without doubt one of the most stressful things that you could possibly go through. That’s why knowing all the options available to you is important before you make a decision regarding your financial future. We explain how the bankruptcy process works in Australia so you can determine the best choice for your situation.
As a former insolvency accountant, one of the things that struck me whilst working in the profession was the extreme distress clients would often show when confronted with the possibility of bankruptcy.
Bankruptcy means slightly different things in different countries; in Australia, though, it refers to the process in which a person’s debts are cleared and they are assigned a ‘trustee’ – a specially appointed officer of the Court who manages their assets and estate for the duration of the bankruptcy, which is normally 3 years.
The first thing you need to know is that once you become bankrupt, all of your divisible property will vest in your trustee. The trustee’s role is to administer your bankrupt estate, determine your financial position and affairs, and sell any assets that are above a certain value. Any funds that are available in your estate after assets have been sold and the trustee’s administration fees have been paid would then normally be paid evenly to creditors in the form of a dividend.
The bankruptcy laws in Australia are defined by a piece of legislation called the Bankruptcy Act 1966, which you can see in full from the Australasian Legal Information Institute here. Some of the provisions in the Act are filled with ‘legalese’ and purposely written to be obtuse, but the Act is still good to consult if you have a specific question regarding certain obligations under bankruptcy.
There are alternatives to bankruptcy, such as a debt agreement or personal insolvency agreement, and I’ll cover those in later articles. This article, though, is focused on bankruptcy, and how it could potentially affect you and those around you, and why it’s not always as scary as it’s portrayed in the media.
Dealing with the stress
As an insolvency accountant working for a bankruptcy trustee, I’d regularly talk to people who were scared of losing their homes, cars, etc – some people even thought they’d lose every valuable possession in their house, and be left a penniless urchin living on the street.
As someone who has worked with hundreds of bankrupts over the years, I’m here to tell you a couple of things.
Firstly, bankruptcy is not as stressful as you might imagine it to be. It’s not an entirely pleasant situation to be in, no question – but if you are as honest as you can be with your assigned trustee, things will go smoothly for you, and once the 3 year bankruptcy period is over, you will be able to return to a normal life.
People sometimes assume that declaring bankruptcy means burly men are going to come into your home unannounced and start taking your possessions. I can assure you that this does not happen. If you don’t want to, you normally won’t even have to meet your assigned trustee – in fact, the typical procedure is that you’ll receive a letter with an introduction to your trustee or their firm and a document called a Statement of Affairs.
The Statement of Affairs is extremely important – it contains all of the relevant information that your trustees will need to know about you, such as your assets (things you own such as vehicles and property), liabilities (any money you owe to other people), companies or businesses you run, and your annual income.
If you’ve looked at all the options available to you and conducted thorough research on the consequences of your decision, and are still considering the idea of bankruptcy, the following sections have more detail about how to declare bankruptcy and the obligations and restrictions you’ll face.
How to Become Bankrupt
There are two ways to become bankrupt in Australia. The first is to declare yourself bankrupt by filing what is known as a ‘Debtor’s Petition’.
This involves completing two forms, the Debtor’s Petition form and the Statement of Affairs form, and sending the application by email or post to the Insolvency and Trustee Service Australia (ITSA). You can also download both of these forms directly from the ITSA website.
Once ITSA have received your form, they will process it which can take up to about 28 days, and then you will receive notification that your application for bankruptcy has been either accepted or rejected. You will either be assigned the ‘official’ trustee to look over your affairs, which is ITSA itself, or you might be assigned a bankruptcy trustee from one of the big Australian insolvency firms. There is little practical difference between either appointment – so long as you co-operate and complete all necessary forms on time when asked, you shouldn’t have a problem.
The other way to become bankrupt is by a creditor making an application to the Federal Court, called a creditor’s petition. The creditor must obtain a Judgement from the Court on the debts you owe to them and you must have been served with a Bankruptcy Notice. The Bankruptcy Notice gives you a set period to pay the outstanding debt to the creditor, and if the debt is not paid during that time, the creditor can proceed to file a creditor’s petition with the Court. Keep in mind that a bankruptcy notice can only be served for debts of $5000 in value or above and that are no more than six years old. So if your total debts are below $5000, don’t worry – you cannot be served with a bankruptcy notice.
What restrictions apply to a bankrupt?
Unfortunately there are a number of restrictions that apply to a bankrupt person that you’ll need to be aware of if you’re considering bankruptcy. They are as follows:
- A bankrupt must surrender their passport to their trustee and has limitations placed on their overseas travel. This law is primarily in place to prevent bankrupts from fleeing the country to escape legal obligations and is not intended to prevent bankrupts from taking holidays or recreational time overseas. Bankrupts are generally given permission to travel overseas by their trustee if it is a personal holiday and sufficient notice is given.
- A bankrupt cannot serve as a director or secretary of any company. If a bankrupt holds the position of company director or secretary at the time they are made bankrupt, they will have to resign from that position(s) as soon as practical.
- A bankrupt must disclose information about all of their available assets to their trustees. This includes all associated books and records.
- A bankrupt must make their divisible assets available upon request to the trustee and co-operate with the trustee at all times in recovery or location of assets. The bankrupt must also not deliberately conceal assets or property from the trustee or face penalty.
- Bankrupts cannot trade a business under a registered business name without advising the relevant third parties that they are an undischarged bankrupt.
- A bankrupt must inform any potential lender that they are an undischarged bankrupt before applying for credit over an indexed amount (currently $5,155).
There are, of course, many other rules and regulations specified by the Bankruptcy Act that apply to a number of specific scenarios, but the above rules are the main ones to keep in mind if considering bankruptcy.
What happens to a bankrupt’s assets?
All divisible assets automatically vest in a bankrupt’s trustee upon commencement of the bankruptcy. Similarly, divisible assets bought or received by a bankrupt during the bankruptcy period also vest in the trustee. The term ‘divisible asset’ is defined quite broadly in the Bankruptcy Act, but generally is taken to mean anything of value that belongs to the bankrupt.
However, a trustee will only move to realise assets such as property, vehicles, shares and investments, proceeds of a deceased estate, and cash at bank. Normal household items such as televisions, sofas, entertainment systems and kitchen appliances would not be touched in a bankruptcy.
What then happens to those assets that vest in the trustee?
The answer all depends on the equity situation of the assets involved.
A trustee will usually only move to recover assets if there is equity in them – the amount left as a residual after you subtract the amount owing on an asset from the asset’s estimated value.
For example, a car worth approximately $45,000 but having an outstanding loan of $40,000 attached to it would mean there is $5,000 of equity in that vehicle.
That amount – the $5,000 of equity – would be the amount that the trustee seeks to obtain for the bankrupt estate. That amount could be obtained in a number of ways – either through a family member or friend of the bankrupt paying the amount of the equity, the trustee arranging to collect and sell the vehicle, or any number of other options.
If a bankrupt has little to no equity in an asset, their trustee would usually not move to realise the asset until a later period, when they would re-assess the equity position of the asset again. It’s entirely possible a trustee could contact a bankrupt several years after the bankruptcy period has finished to discuss the equity position of the assets again.
Exemptions to Divisible Assets
There are a number of allowances made by the Bankruptcy Act for assets necessary to everyday life.
Some of these include a motor vehicle allowance threshold, which prescribes that a bankrupt may keep a motor vehicle so long as its value is not above $7,200 – although this threshold amount normally changes every year. A bankrupt is also allowed to keep tools of trade (such as tradesperson’s tools) up to a value of $3,550.
Assets Owned Before the Bankruptcy
Trustees have the power to investigate past transactions made by a bankrupt.
This means that if a bankrupt has sold or given away assets in suspicious circumstances – such as if they were sold for significantly less than their value – the trustee may investigate this and possibly commence a recovery action against the party who received the asset. Consult the Bankruptcy Act for more specific information on this.
Earning Income While Bankrupt
You are still allowed to work while bankrupt. In fact, the legislating bodies encourage it, so as to allow a bankrupt to continue contributing to society and remaining as an active member of society.
However, you’d have to report your annual estimated and actual earnings each year to your trustee, and there are some financial contributions that you’d have to make if earning over a certain amount.
The limit is adjusted to account for the number of dependents you have – the number of people that you financially support. The limits normally increase each year, but the current threshold amounts are as follows:
- $50,332.10 – No Dependents
- $59,391.88 – 1 Dependent
- $63,921.77 – 2 Dependents
- $66,438.37 – 3 Dependents
- $67,445.01 – 4 Dependents
- $68,451.66 – 5+ Dependents
In order to calculate the amount you’d have to pay each year as income contributions, use the following formula:
(Assessed Income – Income Threshold Amount) / 2
‘Assessed Income’ means income after tax, Medicare levy and allowable deductions.
So, for example, let’s say a bankrupt is earning $72,000 a year after tax and Medicare levy, with no dependents. The relevant threshold for that person is $50,332.10.
Apply the formula as follows:
(72,000 – 50,332) /2 = $10,834
The bankrupt would have to pay $10,834 to their estate as income contributions.
The amount is normally paid over a year, by either monthly or weekly repayments.
Joint Debts in Bankruptcy
A common question I got while working in the insolvency industry is what happens to joint debts. If a person is made bankrupt but has a debt jointly held with him and his wife, what happens to that debt?
The answer is that normally the debt will still be recoverable in full from the other party.
In the case of jointly held assets, such as a property held by a husband and wife, if one party is bankrupt the trustee will seek to recover the bankrupt’s share only of that property.
Debts Not Covered by Bankruptcy
There are certain types of debts that unfortunately are not covered by bankruptcy and must still be paid.
These include SPER fines such as speeding or drink driving fines, HECS or HELP debt owed to the government, and child support debts. Consult the Bankruptcy Act for further information on debts that are not covered by bankruptcy.
Ending the Bankruptcy
There are a number of ways a bankruptcy can end.
The first and most common way is for the bankruptcy period to expire. The bankruptcy period is normally 3 years after a bankrupt lodges their Statement of Affairs and it is accepted for lodgement.
The second way is if the bankruptcy is annulled. An annulment can occur if the bankrupt has sufficient funds to pay all debts of the estate, including the trustee’s administration fees.
This could occur if, for example, a bankrupt receives a large sum of money from a deceased estate. The money still vests in the trustee, but if there is enough money collected to pay every outstanding debt and the trustee’s fees, the bankruptcy would be annulled.
Annulment can also occur if a Section 73 proposal is accepted by the creditors. A Section 73 proposal is where the creditors agree to accept a sum in satisfaction of their debt. The sum must be higher than the creditors would otherwise receive in the normal course of the bankruptcy.
At the end of the day, stressing yourself overly about financial affairs is neither healthy nor productive. It won’t be the end of your life if you declare bankruptcy – it is possible for you to recover, and indeed many bankrupts go on to lead happy, successful and wealthy lives after their bankruptcy period has completed.
If you need more information on bankruptcy or other forms of insolvency agreements, I recommend that you visit the ITSA website or speak to one of the many excellent insolvency practitioners around the country, who usually will be more than willing to consult with you and explain your options further.
Note: This document is not intended to serve as formal legal or accounting advice in any guise. Seek professional advice before making any legal or financial decision.