INSOLVENCY LAW REFORM BILL

BILLS DIGEST INSOLVENCY LAW REFORM BILL 2005 Date of Introduction: 21 December 2005 Bills Digest No. 1340 NEW ZEALAND PARLIAMENTARY LIBRARY

Bills Digest No. 1340 Published by the Parliamentary Library Parliament Buildings, Wellington New Zealand. 15 March 2006 Prepared by John McSoriley BA LL.B, Barrister Legislative Analyst Ph. (04) 471-9626 (Ext. 9626) Fax (04) 471-1250 Caution This Digest was prepared to assist consideration of the Bill by members of Parliament. It has no official status. Although every effort has been made to ensure accuracy, it should not be taken as a complete or authoritative guide to the Bill. Other sources should be consulted to determine the subsequent official status of the Bill. Copyright NZ Parliamentary Library, 2006 Except for educational purposes permitted under the Copyright Act 1994, no part of this document may be reproduced or transmitted in any form or by any means, including information storage and retrieval systems, other than by Members of Parliament in the course of their official duties, without the consent of the Parliamentary Librarian, Parliament Buildings, Wellington, New Zealand. This document may also be available through commercial online services and may be viewed and reproduced in accordance with the conditions applicable to those services.

NZ Parliamentary Library, Bills Digest No. 1340 1 INSOLVENCY LAW REFORM BILL 2005 Date of introduction: 21 December 2005 Portfolio: Commerce First reading: 21 February 2006 Select Committee: Commerce (closing date 07 April 2006) PURPOSE The aim of the Bill is to repeal the Insolvency Act 1967 (the 1967 Act) and to amend the Companies Act 1993 (the Companies Act) to reform and restate the law relating to bankruptcy (for individuals) and liquidations (in relation to companies), BACKGROUND New Zealand s personal insolvency law (bankruptcy) was last reviewed in the 1960s resulting in the enactment of the Insolvency Act 1967. Corporate insolvency law (liquidation) was amended to some extent with the enactment of the Companies Act 1993 and related legislation. However the major insolvency policy issues at the time, and that have arisen since, were deferred in anticipation of a comprehensive and coordinated review of both personal and corporate insolvency 1. In a media release 2 concerning this Bill, the Minister of Commerce, Lianne Dalziel said that although she was confident that there would be widespread support for the new phoenix company provisions and the tightening of the voidable transaction provisions [see below], she felt that there would be two areas of reform that would attract the most debate. These are, first, the streamlining of the bankruptcy administration process and the introduction of a new No Asset Procedure as an alternative to personal bankruptcy and, second, the introduction of a voluntary administration procedure for companies with potential for rehabilitation, she said. Personal insolvency laws are some 40 years old and do not reflect the shift from sole trader bankruptcy to consumer related bankruptcies. The No Asset Procedure is a one-off opportunity for an individual with no assets to be subject to the procedure for 12 months as opposed to three years as is the case for bankruptcy. The voluntary administration procedure will bring New Zealand into line with other OECD countries and has been adopted from the Australian voluntary administration 1 Insolvency Law Reform Bill, 2005 No 14-1, Explanatory Note, General policy statement, p. 1. 2 Media Release, Hon Lianne Dalziel, Insolvency Laws To Be Revamped, 21 Dec 2005

NZ Parliamentary Library, Bills Digest No. 1340 2 regime, which will have the added advantage of benefiting business rehabilitation involving trans-tasman organisations, Lianne Dalziel said by adopting the UNCITRAL Model Law on Cross-Border insolvency, the Bill also paves the way for cross-border insolvencies to take place and will address difficulties that arise when an entity is placed under some form of insolvency administration in one state, but has assets in another. Although the Bill does not include proposals to regulate the insolvency profession, I have asked officials to report to me on this by late 2006. In the meantime proposed amendments in relation to the appointment of liquidators, liquidators' reporting duties, prohibition orders on liquidators, director and related party voting in a liquidation process, should mean that the accountability of liquidators to creditors is increased. It should also mean that the scope for company shareholders and related parties to defeat the interests of creditors is reduced. Lianne Dalziel said that the objectives of the Bill are to: Provide a predictable and simple regime for financial failure that can be administered quickly and efficiently, with the minimum necessary compliance and regulatory costs on its users and that does not stifle innovation, responsible risk taking and entrepreneurialism by excessively penalising business failure; Distribute the proceeds to creditors in accordance with their relative preinsolvency entitlements, unless it can be shown that the public interest in providing greater protection to one or more creditors outweighs the economic and social costs of any such priority; Maximise the returns to creditors by providing flexible and effective methods of insolvency administration and enforcement which encourage early intervention when financial distress becomes apparent; Enable individuals in bankruptcy to participate again fully in the economic life of the community; and Promote international co-operation in relation to cross-border insolvency. Press comment on the Bill Some press comment has appeared on the Bill 3. The chairman of the insolvency professionals interest group INSOL NZ, William Black of McGrath/Nichol + Partners, said the voluntary administration regime was a step up, and in line with Australia. However, Black criticised the legislation s failure to preserve tax losses under the voluntary administration regime, saying the omission might limit its effectiveness. He also noted the Crown preferences giving PAYE and GST priority had been retained, rather than New Zealand following the British model and abolishing them. That might be a further brake on voluntary administration. Chapman Tripp principal Michael Harper said he hopes Crown preferences will be reconsidered 3 Catriona MacLennan, Insolvency Bill finally reaches Parliament, Independent, 25 January 2006, p. 4.

NZ Parliamentary Library, Bills Digest No. 1340 3 at the select committee stage. Retaining it had been a poor policy decision. However, he said he was keen to see the Bill passed as soon as possible, as it was almost 18 months since the draft legislation was released for discussion. Insolvency laws are likely to be tested during the long-predicted economic downturn, he said. MAIN PROVISIONS Insolvency Bill Application of Bill to incorporated bodies The Bill provides that a corporation, association, or company incorporated or registered under any Act must not: be adjudicated bankrupt; make a proposal to its creditors; be the subject of a summary instalment order under this Bill; or be admitted to the no asset procedure (Part 1, Clause 6 (this clause is a carrying over, but with redrafting, of Section 168 of the 1967 Act)). Adjudication by Court or by debtor filing application with Assignee A debtor is adjudicated bankrupt when: a creditor of the debtor applies to the Court for an order of adjudication, and the Court makes the order; or the debtor files an application with the Assignee 4 for adjudication (Part 2, Clause 10). Adjudication by Court A Court may adjudicate the debtor bankrupt if a creditor of the debtor has applied for the debtor s adjudication and the debtor has committed an act of bankruptcy (see below) within the period of three months before the filing of the application. A creditor may so apply if the debtor owes the creditor (or two or more creditors applying together) a certain amount of $1,000 or more and the debt is payable either immediately or at a date in the future that is certain (Part 2, Subpart 2, Clause 11 and 13). Adjudication on debtor's initiative A debtor may be adjudicated bankrupt by filing an application for adjudication with the Assignee (Part 2, Subpart 2, Clause 12). 4 The Assignee or Official Assignee means the Official Assignee for New Zealand, the Deputy Official Assignee for New Zealand, and any other Official Assignee or Deputy Assignee appointed under this Bill (Part 1, Clause 3, definition of Assignee or Official Assignee ). These officers are at present employees of the Ministry of Economic Development in the Insolvency and Trustee Service.

NZ Parliamentary Library, Bills Digest No. 1340 4 Acts of bankruptcy A debtor commits an act of bankruptcy if: a creditor has obtained a final judgment or a final order against the debtor for any amount; and execution of the judgment or order has not been halted by a court; and the debtor has been served with a bankruptcy notice; and the debtor has not complied with the requirements of the notice or satisfied the Court that he or she has a cross claim against the creditor within the following time limits: o if the debtor is served with the bankruptcy notice in New Zealand, ten working days after service; or o if the debtor is served outside New Zealand, the time specified in the order of the Court permitting service outside New Zealand (Part 2, Subpart 2, Clause 17). Other acts of bankruptcy include where: the debtor discriminates amongst creditors by disposing of all, or substantially all, of the debtor s property to a trustee for the benefit of one creditor or certain creditors (Part 2, Subpart 2, Clause 18); the debtor does any of the following fraudulently or with an intent to give any creditor an advantage over other creditors: o disposes of his or her property, or part of it; o creates a charge on his or her property or gives any security in it; o makes any payment (Part 2, Subpart 2, Clause 19); the debtor departs, attempts to depart, or prepares to depart, from New Zealand or, if the debtor is already outside New Zealand, remains there, with intent to defeat or delay his or her creditors (Part 2, Subpart 2, Clause 20); the debtor, with intent to defeat or delay his or her creditors, avoids them by, for example, leaving or keeping away from the debtor s home, or by staying within that home (Part 2, Subpart 2 Clause 21); the debtor notifies any of the debtor s creditors that the debtor has suspended, or is about to suspend, payment of the debtors debts (Part 2, Subpart 2, Clause 22);

NZ Parliamentary Library, Bills Digest No. 1340 5 the debtor admits at a meeting of creditors that he or she is insolvent and a majority (by number present and value of their combined debts) of the creditors present at the meeting require the debtor to file an application for adjudication or where the debtor agrees to file an application for adjudication and does not do so within two working days after the meeting (Part 2, Subpart 2, Clause 23); an execution process has been issued against the debtor or property of the debtor and property of the debtor has been taken into possession under the execution process, and the judgment or order for which the execution process has been issued is not satisfied within five working days after possession has been taken (Part 2, Subpart 2, Clause 24); where a writ of sale directed against any land of the debtor, or any interest in that land, has been delivered to a sheriff and, as part of the execution process, the land or interest has been advertised for sale in at least one newspaper published or circulating in the same area, and the writ of sale is not satisfied within five working days after the date of the judgment (Part 2 Subpart 2, Clause 25); if, under an execution process issued against the debtor or the debtor s property, a return is made that sufficient goods and chattels of the debtor could not be found on which to levy the debt (Part 2, Subpart 2, Clause 26); if the debtor, with intent to prejudice his or her creditors, or to give one creditor an advantage over another removes or attempts to remove any of the debtor s property from any place or conceals or attempts to conceal any of his or her property (Part 2, Subpart 2, Clause 27); and if the debtor is required by law to keep a trust account, and judgment has been given against the debtor for non-payment of trust money, and the judgment is not satisfied within five working days after the date of the judgment (Part 2, Subpart 2, Clause 28). Power of Court to appoint Assignee as receiver The Bill provides that, after a creditor s application for adjudication is filed, a creditor of the debtor may apply to the Court for an order appointing the Assignee as receiver and manager of all or part of the debtor s property and may authorise the Assignee to take all or any of the following steps: take possession of any property; sell any perishable property or property that is likely to fall rapidly in value; control the debtor's business or property as directed by the Court (Part 2, Subpart 3, Clauses 50 54). Procedures following adjudication The procedures to be followed, especially by the Official Assignee and particularly in relation to the meetings of creditors and the rights of creditors, are set out in detail in

6 the Bill. There is a new provision that the Court may order that the Assignee must not advertise an adjudication if an appeal against the adjudication or an application for annulment is pending. (Part 2, Subparts 4, 5 and 6, Clauses 55 100). Public register Under the 1967 Act the Assignee may publish information regarding a bankrupt s discharge, namely that discharge has been refused or granted but suspended. The Bill requires the Assignee to maintain a public register in respect of persons who are or have been bankrupt and a public register in respect of persons currently admitted to the no asset procedure. There are safeguards built into the scheme. For example, access to some information is restricted to creditors only, and a search of the register may only be carried out for stated search purposes (Part 2, Subpart 4, Clause 62; Part 4, Subpart 1, Clause 306; Part 5, Subpart 4, Clause 365; and Part 7, Subpart 4, Clauses 439-450). Property acquired by the bankrupt after the commencement of bankruptcy The Bill deals with property acquired by the bankrupt after the commencement of bankruptcy. In the 1977 Court of Appeal case of Gough v Fraser 5 it was held that nothing in Section 44 of the 1967 Act (now Clause 152 of the Bill) prevented a bankrupt from suing in respect of after-acquired property unless and until the Assignee intervened. The Bill now makes it clear that such after-acquired property vests in the Assignee without intervention and that accordingly the bankrupt has no rights in respect of such property (Part 3, Subpart 1, Clause 102). Litigation rights The Bill allows the Assignee to disclaim onerous property as part of the estate. It includes in the definition of onerous property a litigation right that is effectively worthless, either because it has no reasonable prospect of succeeding or because it cannot reasonably be funded from the bankrupt s estate. In either case, it is up to the Assignee to decide whether to include it in the bankrupt estate or not (Part 3, Subpart 1, Clause 117(4)(a)(iii)). Requirement on banks The Bill provides that the Assignee may require a bank to search its account records to see if any match the names of undischarged bankrupts. If there is a match, then, the bank must notify the Assignee of the account and freeze it. (Part 3, Subpart 3, Clause 154 (carried over from Section 49(5) of the 1967 Act) and Clause 155). Retention by the bankrupt of certain necessary assets Under the 1967 Act, the bankrupt may retain tools of trade and household furniture and effects. The Bill adds a motor vehicle (which must not exceed $5,000 in value). The maximum value of tools of trade and household furniture, etc, that the bankrupt may retain is a matter for the Assignee to decide (currently under the 1967 Act fixed at $500 and $2,000 respectively). The maximum value allowed for a vehicle retained by the bankrupt may be increased by Order in Council to take account of any rise in the all groups index number of the Consumers Price Index (Part 3, Subpart 4, Clause 156 (cf Section 52(1) of the 1967 Act)). 5 [1977] 1 NZLR 279 (CA)

7 Priority of payments to be made in the distribution of a bankrupt s assets The Bill makes provision for the priority of payments to be made to preferential creditors. It is specified that any money that remains after the preferential creditors are paid is to be used to satisfy the claims of general creditors, and any surplus is to be paid to the bankrupt. However, if any money cannot be distributed for any reason, that money must be paid to Public Trust. The priority order of payments to be made to preferential creditors differs from the 1967 Act as follows: a new priority has been created for creditors who protect, preserve the value of, or recover property of the bankrupt for the benefit of the creditors by the payment of money or the giving of an indemnity; and certain priorities have been consolidated (e.g. accident compensation levies and the amounts to be paid to the Commissioner of Inland Revenue in accordance with the Child Support Act 1991, the Tax Administration Act 1994, and the Student Loan Scheme Act 1992 have all been consolidated under top (1) priority claim; and certain priorities have been removed. The preferential claim for the Inland Revenue Department for tax debts owing is also retained (Part 3, Subpart 10, Clauses 271 287). The no asset procedure The Bill makes extensive provision the no asset procedure. This is an alternative to adjudication on a debtor s application and commences in the same way with a statement of the debtor s affairs. The Assignee decides whether the debtor qualifies for the no asset procedure. If the debtor does qualify, and has applied, the debtor may be admitted to the no asset procedure if he or she meets the criteria for entry. The essential criteria are: no realisable assets; total debts between $1,000 and $40,000; no means to repay any amount; and a clean financial record (not previously bankrupt and not previously admitted to the no asset procedure). The debtor is then given a moratorium on his or her debts. With some exceptions, they cannot be enforced while the debtor is in the no asset procedure. If the no asset procedure runs for twelve months, the debtor is discharged and the debts are cancelled. However, if the no asset procedure terminates at any time before twelve months is up, the debtors debts become enforceable once more. The Assignee must: ensure that only a person qualified for entry, and not disqualified, is admitted to the no asset procedure;

NZ Parliamentary Library, Bills Digest No. 1340 8 give creditors the opportunity to object to a debtor being admitted to the no asset procedure; make sure that a debtor who has been admitted to the no asset procedure, but should not have been, is removed from it; terminate the no asset procedure at the request of the debtor if the Assignee is satisfied that through changed circumstances the debtor can repay something towards his or her debts (Part 5, Subpart 4, Clauses 357 371). Voluntary administration of companies The Bill introduces new provisions relating to voluntary administration of companies. The voluntary administration procedure is borrowed from Australian company law but adapted to New Zealand conditions in some respects. The existing New Zealand laws relating to set-off and netting agreements in liquidations are repeated in the Bill. A joint meeting may be held of related companies in administration. For voting purposes the Court may order that pooled property owners are a separate class. The administration of related companies in administration may be consolidated into a single administration. The Bill also restricts the ability of a company to go into voluntary liquidation once an application has been made to the Court for the appointment of a liquidator by the Court (Part 8, Clause 454, inserting New Part 15A of the Companies Act 1993, New Sections 239A 239AEW; Clause 463 inserting New Section 241AA in the Companies Act 1993). Liquidator disqualification The bill adds two further grounds of liquidator disqualification to those currently existing. The new grounds of disqualification are: the provision of accounting services to the company within the two year period before commencement of the liquidation unless all creditors consent to the appointment; or a continuing business relationship with the company within the two year period before commencement of the liquidation unless all creditors consent to the appointment. Also, a person (who is not the Official Assignee) must not be appointed liquidator without first certifying in writing that he or she is not disqualified (Part 8, Clause 471, amending Section 280 of the Companies Act 1993). Voidable transactions The Bill aligns the Companies Act 1993 voidable transaction provisions with the corresponding provisions for personal insolvency. The test for voidability would now be: whether the transaction took place within the specified period (within two years before liquidation or adjudication); if the transaction took place within that period, whether the company was unable to pay its due debts at the time of the transaction;

NZ Parliamentary Library, Bills Digest No. 1340 9 if the transaction took place within that period, whether the transaction enabled a creditor to receive more than the creditor would otherwise have received in the liquidation or bankruptcy. If the transaction meets these criteria, it is voidable at the option of the liquidator (Part 8, Clauses 474 479, amending Sections 280 and 292 297 of the Companies Act 1993). Phoenix company The Bill has provisions relating to the directors of failed companies in relation to phoenix companies. A phoenix company is a company that is known by the name of a company that has been placed in liquidation (the failed company). Directors of the failed company must not be directors of, nor take part in the management of, or be otherwise involved with, a company that is a phoenix company in relation to the failed company for five years after the liquidation of the failed company. Breaches of this control constitute criminal offences, with maximum penalties of five years imprisonment or fines of up to $200,000. Also the director may be made personally liable for all or part of the debts of the phoenix company There are four exceptions to the rule that a director of the failed company may not be a director of the phoenix company. These are: where the Court gives permission; where the business of the failed company is taken over by a successor company by arrangement with the liquidator or receiver of the failed company or by way of a scheme of arrangement; where a director of a failed company takes part in the management of a phoenix company for a temporary period while an application for a Court exemption is made; and where the phoenix company has been known by the name of the failed company for at least twelve months before liquidation of the failed company, and the phoenix company has not been dormant in that period (Part 8, Clause 482, inserting New Sections 386A - 386F into the Companies Act 1993). Cross Border Insolvency Bill Part of the Bill will become at a later stage the Cross-Border Insolvency Bill with the aim of: implementing the Model Law on Cross-Border Insolvency, adopted by the United Nations Commission on International Trade Law on 30 May 1997, in New Zealand; and providing a framework for facilitating insolvency proceedings when a person is subject to insolvency administration (whether personal or corporate) in one country, but has assets or debts in another country or more than one

NZ Parliamentary Library, Bills Digest No. 1340 10 insolvency administration has commenced in more than one country in relation to a person. The Model Law on Cross-Border Insolvency (amended and supplemented in order to apply to New Zealand) is set out in the Bill and the Bill also contains consequential amendments that are required as a result of the implementation of the Model Law on Cross-Border Insolvency in New Zealand (Part 9, Clauses 487 498, and Schedules 5 and 6). NZ Parliamentary Library, 2006