How Can Phoenix Companies Be Stopped? 4

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Monday, July 6th, 2015
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The experience of workers and creditors associated with Sydney-based construction companies linked to James Soong over several decades was shocking.

Soong was a director of numerous companies including the Fyna Group which specialised in erecting formwork in Sydney.

After coming onto the radar of regulators in the 1980s, he was finally jailed for three years in 2010 for failing to remit $6.7 million to the tax office in in relation to two companies operated by him over a period spanning almost three years, from October 1995 until June 1998.

That sentence, however, did not come before he allegedly managed to cheat workers and small business creditors of what then Construction, Forestry, Mining and Energy Union National Secretary John Sutton puts at as much as $100 million through phoenix activity. Phoenix activity is a practice designed to avoid paying obligations owed to creditors, employees or regulatory bodies (e.g. the ATO) through the intentional transfer of assets from one company to a new company. This leaves debts sitting in the old company with no assets from which to pay them and allows company directors to go about on a business as usual basis trading under the new company.

Soong’s activities were extreme. Prior to being disqualified from being a director for four years, he had been involved in no fewer than five construction companies that collapsed in seven years according to a Sydney Morning Herald report in 2010. A few days before ASIC banned him, his wife replaced him as director and secretary of no fewer than 10 companies and the family dynasty continued.

While this is an extreme case, it highlights what has long been known to be an enormous problem within the sector. The exact prevalence and impact of phoenix activity is difficult to determine, but a 2012 report prepared for the Fair Work Ombudsman by leading accounting firm PricewaterhouseCoopers put its upper estimate of the overall financial impact at as much as $3.2 billion per year as workers lost accrued wages, entitlements and super, and other businesses (mainly subcontractors and other unsecured trade creditors) and the tax office lost monies owed and taxes unpaid. A Senate Inquiry looking at phoenix activity among broader issues surrounding construction sector insolvencies is currently underway.

The personal impact of this type of behaviour cannot be understated. One Queensland-based subcontractor who has lost a total of more than $1 million owed from four separate companies who went belly up is himself in debt to the tune of $150,000 in unpaid taxes and is set to lose everything he has built up over 20 years in a forced liquidation. Another young man lost his entire family savings as a result of entering into a subcontract arrangement with former Brisbane-based Walton Constructions just two months before the firm went into liquidation. Walton’s assets were transferred to two related entities shortly beforehand, leaving the abandoned company with debt of $70 million owed to no fewer than 1,350 subcontractors and no assets from which to pay the debt.

Not surprisingly, many who have lost out are outraged.

“My feelings are strongly that we are witnessing one of Australia’s biggest rorts and disgraces,” said Subcontractors Alliance chief executive officer Les Williams, who himself lost hundreds of thousands in the Walton Collapse. “An annual $3 billion insolvency feast on innocent small businesses.”

To be sure, it must be acknowledged that not all instances of company failure involve illegal phoenix activity. Indeed, activity which involves a responsibly managed business which continues after liquidation by use of another corporate entity does not necessarily run afoul of the law.

Moreover, by their nature, limited liability arrangements mean creditors – and especially unsecured creditors – do often lose large amounts of money when companies fail, even where illegal activity has not occurred.

Rather, illegal phoenix activity generally occurs where assets are transferred with the intention of avoiding liabilities by shutting down one company, transferring assets into another and then using that second company to carry on the same kind of business.

So what allows this to happen? Melbourne University associate professor Helen Anderson, a lead investigator in a university research project revolving around the regulation of phoenix activity, believes part of the problem revolves around lack of strategies and procedures in place to prevent phoenixing from occurring. Whilst the Australian Securities and Investments Commission (ASIC) is able to disqualify a person who has been involved in multiple corporate failures from being a company director, resource limitations mean that in practice, the regulator is not realistically able to take action against everybody. For those not disqualified from being a director, there are no limitations on the amount of times they can set up a company or the number of legal entities they can incorporate.

“At the moment, there is no restriction on you unless you are actually disqualified as a director from managing corporations,” Anderson said.

“There is nothing in place to stop you setting up one company after another 10, 12, 20 or however many times you like – running the earlier ones into the ground and not paying taxes and wages and things like that. Until ASIC positively takes an action to have you disqualified or to bring insolvent trading action against you or a breach of director’s duties, you are free to go about it.”

Anderson said it is unrealistic to expect ASIC to stamp out all phoenix activity. Rather, she said, proactive ways are needed to shed better light on those that may be involved in this type of activity.

A director identity number, for example, would help ASIC, the Australian Taxation Office and the Australian Crime Commission to more easily identify and track those who are systematically liquidating one company after another, and would help eliminate other problems such as fictitious directors or the practice of having pensioners paid to be nominal directors of companies. With such a tool at hand, regulators could progressively impose certain requirements on directors such as compulsory education, personal guarantees or monthly supervision of accounts as individuals rack up more and more failures.

As well, a public database naming directors who had been associated with multiple company failures would allow current and prospective customers, suppliers and employees to make an informed decision about entering into a transaction or business relationship with the person or companies under their control.

Such measures would not be aimed at punishing genuine entrepreneurs who had tried and not succeeded in business or accusing people of criminal behaviour, Anderson said, but would rather be about empowering customers and suppliers, easing the burden on regulators and making it increasingly difficult for those involved in rampant behaviour to continue that behaviour.

Others want more direct action to protect workers and subcontractors. The Subcontractor Alliance, for instance, wants the national introduction of construction escrows or trust accounts for subcontractor payments and for the diversion of funds meant for particular contracts to be a serious offense. The Construction, Forestry, Mining and Energy Union supports the idea of trusts but goes further and calls for directors to become personally liable for unpaid worker entitlements in some cases. The union also calls for the national application of current laws in New South Wales which require head contractors to obtain declarations from subcontractors to the effect that entitlements of the subcontractors’ employees have been paid.

Williams does not hold back when expressing his frustration about what he sees as a lack of meaningful action to protect subcontractors and others from illegal phoenix activity.

“The answer(s) to these problems are the same in 2015 as they were in 1985 and that is to provide meaningful Security of Payment legislation for percent of the industry,” he wrote in the Subcontractor Alliance submission to the inquiry.

“Not to do so is simply dishonest and discriminatory. Had this legislation been in place…Phoenix trading of this kind would disappear. This is now occurring with monotonous regularity and will keep on doing so and the answer is clear and the answers have all been identified.”

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4
  1. Beverley-jane

    As victims of an unscrupulous builder who utilised this immoral bolt hole, walking away from hundreds of thousands of $ in damages, refunds and repairs then receiving almost $1.5 million for his private home which is untouchable, I find the legal system fails families, trades and business stability by allowing this to continue.
    When so called professional practitioners can devastate the finances and stability of families through incompetence and outright dishonesty, then legally avoid accountability time and again via liquidation, it is sheer negligence of consumer, trades and business protection.
    Is the stolen money of victims 'legally' greasing the wheels of this industry?

  2. Grant Spork

    A number of development firms which got into trouble circa 2009, became insolvent and were forgiven 99% for instance of their debt by creditors including banks. What is needed for sub-contractors and suppliers is a form of insurance which will bay out on a "Quatum meruit," basis when a head contractor or client become insolvent. Sub-contractors operate in an environment where government policy can destroy their business overnight, just remember interest rates under Paul Keating at 18%, or the pink batts debacle. Is it any wonder the ship and sub builders have said, "We can build these economically if we can look 10 years and know we have a stream of orders and activities." What sub-contractor wouldn't do well if that were possible? Phoenix enterprises could also be the ASZ equities market, and no one is suggesting we imprison all the greedy bankers who loose our life savings in a bear market. Phoenix companies are a result of complex tax rules and the environment in which sub-contractors work. It is not possible to legislate clever company structures out of existence, but an industry wide sub-contact insurance which would pay say 80% of monies owed after insolvency, could benefit.

  3. Anne Paten

    Andrew
    The phoenix option could be stopped. Just like the building industry could be clean. Just like 85% of apartments need not be defective. But there is no political will to have a clean political system, to build safe houses or to listen to all citizens. Democratic values integrity and ethics died decades ago.

    The fact is that no Governments want to change the system. The major parties dominate, they accept the political donations and that means the donors direct Government policy – money buys power! Only the voices of business get to speak and be heard. Ordinary folk, those that spend the money that allows business to thrive are of no account – we have no voice, Government will not meet with us and frankly do not care about the bulk of us who suffer because of greed and corruption. We are quite simply 'cash cows' – we have one purpose – to be milked of our money!

    Hence the phoenix problem could easily be overcome. But it will not be. And the 'regulator' will not help – business focused to protect the business crooks.

    Liberal or ALP – Tweedledum or Tweedledee? Since the 1980s when I studied politics at the Uni of Melbourne, this the system. But in 2015 the harm's far worse.

  4. Justin

    Here in Australia, we are known now as the 'paradise for white collar crime'. Why can't these people be banned for the rest of their life from trading as ANY business identity. 4 years ban is not good enough. This guy has been breaking the law since the 1980's and was only in 2010 that he was punished. That's why Australia is the paradise for this illegal activity, no stiff penalties and slap on the wrist punishment. The Australian government clearly sends a clear message to criminals that it is OK to do this here, where the gains clearly outweigh the consequence. WAKE UP AUSTRALIAN GOVERNMENT! WE HAVE HAD ENOUGH!