Curbing the flight of the phoenix - New solutions are needed to address insolvency in the construction industry

Construction11.jpg
21 November 2013

Like the mythical bird that dies and then resurrects, phoenixing is the deliberate liquidation of a company to avoid paying tax, creditors or employees and then the ‘resurrection’ of the business through a different entity. It is illegal and particularly prevalent in the construction sector. It’s time for the states to take action against phoenixing through better licensing of builders.

During the first two quarters of 2013, the building and construction sector accounted for more insolvencies than any other industry in Australia. Of all states, NSW was the worst affected.

The negative impact of insolvency is magnified by phoenixing, which enables a company that owes money to creditors and employees to restart without paying its debts.

Regulators are aware of the problem. ASIC announced in September it will conduct surveillance of 1,400 target companies and approximately 2,500 individuals across the building and construction sector as well as other industries.

Concurrently, the ATO announced it will investigate 2,000 property developers who have placed companies into liquidation with outstanding GST obligations on multiple occasions.

The tax office aims to deter potential phoenix activity by demanding tax returns and payments from developers who are suspected of phoenix activity, and applying penalties.

The burden of phoenixing falls mostly on private enterprise, particularly smaller contractors and businesses that are left unpaid for goods and services that they may have already provided.

Government revenue is also impacted by phoenix companies not paying tax debts.

A report commissioned by the Fair Work Ombudsman last year estimated that illegal phoenix activity costs the Australian economy somewhere in the range of $1.78 to $3.19 billion per annum.

The building industry is a particular hotspot for phoenixing as reported in last year’s Collins Inquiry into Insolvency in the NSW Construction Industry. Several of the inquiry’s stakeholders were of the view that phoenixing is widespread in the  industry and has a lasting detrimental effect on their businesses.

State governments can curb phoenixing with effective licensing

Regulation of phoenix activity is presently concentrated at the Commonwealth level.   Thirteen Commonwealth government agencies, including ASIC, the ATO and the Fair Work Ombudsman have powers to investigate and/or prosecute suspected illegal phoenix behaviour. 

However, much of their focus is on prosecuting directors, imposing fines and penalties or setting aside voidable transactions.  In other words, treatment by penalty.  

The Commonwealth does have some preventive powers, for example, under the Corporations Act 2001, it can prevent a disqualified individual from managing a corporation for a period of time determined by a Court.  However, such bans are not commonplace.

It’s time for state governments to fill the regulatory gap by introducing laws targeting the prevention of phoenixing in their construction industries. Such preventive regulation would sit well within the current framework, adding a missing piece to the regulatory jig-saw puzzle.

A New South Wales Building and Construction Commission to regulate commercial licensing of the industry?

The Collins Inquiry recommended the NSW Government establish a Building and Construction Commission to regulate ‘all aspects of the construction industry.’

The first mandate of the Commission would be to implement a state-wide licensing system in NSW for commercial builders. The Inquiry also recommended the Commission have authority to conduct rolling ‘financial health checks’ of licensees.  

In response, the NSW Government has said the Commission’s establishment would be subject to a cost-benefit analysis and, in respect of licensing, the public release of a regulatory impact statement.

If the Commission passes the cost-benefit analysis, it will be more effective if it has the authority to detect companies at risk of being ‘phoenixed’ before it happens.

State-based licensing of builders is a sensible way to target phoenix activity. A recent Inquiry into the Queensland Building Services Authority offered one practical approach, recommending the Authority have the power to refuse to licence:

  1. individuals who take advantage of the laws of bankruptcy or who have been bankrupt in the last five years; or
  2. individuals who were directors, secretaries or influential persons for a company which has within 12 months had a provisional liquidator, liquidator, administrator or controller appointed, been wound up, or been ordered to be wound up.

This model would work equally well in NSW if, as recommended by the Collins Inquiry, a mandatory builders’ licensing system is introduced for all builders.  Such a model could be equally implemented in other states and territories.

Establishing such a state based system would also enhance the scope for cross-agency collaboration between State and Commonwealth agencies.  The Commonwealth would likely be amenable to such cooperation, given the already high level of inter-agency collaboration at the federal level. 

If the NSW Commission is established, it could lead the way for a state based attack on phoenix activity. This will go some way to alleviating the economic drain on businesses that operate in and are dependent on the construction industry.




The content of this publication is for reference purposes only. It is current at the date of publication. This content does not constitute legal advice and should not be relied upon as such. Legal advice about your specific circumstances should always be obtained before taking any action based on this publication.


Contacts

Shaun Bailey

Partner. Sydney
+61 2 9210 6948

Profile