The COVID-19 pandemic is seeing widespread impacts on businesses and the economy across the world. Increased insolvency is a continued consequence of the Level 4 lockdown and heavy trading restrictions in New Zealand. Main concerns for businesses in these circumstances are dealings with debtors and any “voidable transactions” that may result in payments being clawed back by a liquidator; as well as directors’ liability in their insolvency duties. The New Zealand Government has announced that it will be introducing temporary legislative change to the Companies Act to minimise business disruption during the pandemic crisis. These changes will adjust insolvent transaction requirements and exempt directors from usual insolvency duties.
Voidable transactions become relevant when a company goes into liquidation. These transactions are payments made by an insolvent company to third parties at a time it is unable to pay its due debts, within two years prior to liquidation. Such payments enable the third party to receive more money towards a debt than it would have received in the liquidation. If such a transaction occurs, a liquidator can seek orders declaring the transaction to be a “voidable transaction”. This requires the third party to repay the amount with a view that it be placed in the pool of assets arising from liquidation. This pool is then evenly distributed among creditors (in accordance with the preferential creditors list).
The types of transactions which can be considered voidable are not limited to payments but also include transactions such as transfer of company property, charges created over company property or anything done by the company for the purpose of entering into some transaction.
Business Debt Hibernation Scheme
In the current climate of COVID-19, voidable transactions and risk of liquidation pose large problems for businesses, who are now unable to pay their creditors, or find entities who will continue to transact with them. The Business Debt Hibernation Scheme is designed to give businesses leeway to manage their debts and keep them afloat. It will allow businesses to put a proposal to their creditors, which would permit them to go into Business Debt Hibernation.
What does being in Business Debt Hibernation mean?
While a business is in BDH it will be able to continue to trade. This will allow directors to maintain control of the company, rather than passing control to an insolvency practitioner.
It also means that any further payments, or dispositions of property, made by the company to third party creditors would be exempt from the voidable transactions regime to encourage businesses to continue to transact with a company that has entered BDH. This will provide certainty to new creditors that they won’t have to repay any money they receive, and encourage continued transactions with businesses in BDH.
BDH would be binding on all creditors of a company other than their employees and would be subject to any conditions agreed with creditors. If the creditors reject the proposal, directors would still have a range of existing options available including trading on, entering voluntary administration and appointing a liquidator.
Key features of the proposal are that:
- directors will have to meet a threshold before being able to access the BDH regime and putting a proposal to their creditors
- creditors will have a month from the date of notification of the proposal to vote on it, with the proposal going ahead if 50% (by number and value) agree
- there will be a one month moratorium on the enforcement of debts from the date the proposal is notified, and a further six month moratorium if the proposal is passed.
Business Debt Hibernation will be available to all forms of entity with legal personality as well as entities that do not have legal personality (i.e. trusts and partnerships). It will not extend to licensed insurers, registered banks and non-bank deposit takers, and sole traders.
Other permanent changes also include reducing the voidable transaction clawback period from 2 years to 6 months. This will be applicable to all business even while not operating under BDH.
Reckless trading and directors duties
Under s 135 of the Companies Act 1993, directors have a duty not to agree to, cause or allow the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors. A breach of this duty is commonly referred to as “reckless trading”.
Directors also have a duty not to agree to the company incurring an obligation unless the director believes that the company will be able to perform the obligation when it is required to do so. Under the Act, a Court can hold a director personally liable to any creditors of the company who have suffered a loss as a result of a director breaching its duties.
These duties would require directors to take certain action in response to COVID-19 related financial difficulty, meaning many businesses will not be able to continue trading.
Safe Harbour for directors
Under the new changes, directors’ will be given a ‘safe harbour’ from their duties under ss 135 and 136 of the Companies Act 1993. This will mean directors’ decisions to keep on trading, as well as decisions to take on new obligations, over the next six months will not result in a breach of duties if:
- in the good faith opinion of the directors, the company is facing or is likely to face significant liquidity problems in the next six months as a result of the impact of the COVID-19 pandemic on them or their creditors;
- the company was able to pay its debts as they fell due on 31 December 2019; and
- the directors consider in good faith that it is more likely than not that the company will be able to pay its debts as they fall due within 18 months (for example, because trading conditions are likely to improve or they are likely to able to reach an accommodation with their creditors).
All of these changes are intended to have retrospective application to the date of announcement (3 April 2020).
If you are a business owner and foresee debt management issues in relation to the COVID-19 crisis, then the new safe harbour laws and BDH scheme may allow you to keep your business running. The government is developing a proposal form that directors can use to put BDH proposals to creditors. If you need assistance preparing the terms of the proposal or have difficulties dealing with unwilling creditors we are able to assist you.