The changes to insolvency laws this year are anticipated to have a positive impact on the innovation and start-up sphere. The crucial objective of these laws is to create an environment which will encourage entrepreneurs to be bold and persevere in their creative endeavours, as well as encourage others to invest in Australian business.
Starting-up a business can be incredibly exciting and it has the potential to be extremely rewarding. It can also, however, be both difficult and stressful. Entrepreneurs often make several attempts at start-ups before they are successful, learning from each and every challenge. A critical part of this success is financial investment in the business. This has arguably been hindered by the law; investors often citing concerns over prospective breaches of insolvent trading as a cause for avoiding involvement in start-ups.
Modifications to insolvency laws, including the Corporations Act 2001 (Cth) the Australian Securities and Investments Commission Act 2001 (Cth) and the Bankruptcy Act 1966 (Cth), are aimed at encouraging both entrepreneurs and investors to take risks and strengthen Australia’s innovation and business market. The three core changes to the current law include:
- Reductions to the default bankruptcy period;
- Extending protections for directors in the context of insolvent trading and business restructure; and
- Altering the enforceability of ‘ipso facto’ clauses.
Under the old law, the default bankruptcy period lasted for three years, commencing the date the statement of affairs was filed. It was considered that this relatively long period worked to discourage business innovation and start-ups. Bankruptcy places certain restrictions on the person who has become bankrupt, such as limits on travelling internationally, licencing and employment, including legal prohibitions on the ability of the bankrupt to act as a company director. The change to the law in reducing this period to only one year works to acknowledge the realities of entrepreneurial activity and start-ups. Specifically, the change recognises that these kinds of business necessarily involve risk and that failure is both a common and critical step to achieving success later.
The adoption of so called ‘safe harbours’ for directors from personal liability for insolvent trading will similarly work to reduce the stigmatisation associated with entrepreneurial business failure. A breach of insolvent trading laws by a director can carry severe penalties. The decision to enter voluntary administration as opposed to continued trading can be difficult. That is, it can be often difficult to discern the exact standing of the business in the moment. Changes to the law in this area will provide a more balanced position upon which directors can operate, which is to the benefit of innovative business.
‘Ipso facto’ clauses had the effect of terminating a contract where a business became insolvent. The alternations to the law will now mean that these clauses are rendered unenforceable where the business is undergoing restructure. This means continued performance of agreements by the insolvent businesses with other traders will be recognised. The prospect for fairer outcomes should function as an additional incentive for these entrepreneurial businesses and start-ups to take risks, and for others to risk dealing with them.
It is hoped these changes to insolvency laws will shift the focus from penalising and stigmatising entrepreneurial business failure, to an environment which will foster ambitious risk-taking and promote more innovative and productive Australian business.
This article was authorised by Warwick Heeson.