The truth about declaring bankruptcy in Australia

This article was originally published by Vanessa Walker for Money Magazine (28 August 2024)

In the three months to March, some 2981 people suffered personal insolvency - a state where they could not meet their debt payments. This was an increase of almost 20% compared with the same period last year.

Of those, 1135 entered into legally binding repayment contracts, known as debt agreements, with their creditors while a further 1814 faced the final axe and were declared bankrupt.

To understand the onus on, and obligations of, those who are declared bankrupt, we spoke to Adam Cutri, at Bartier Perry Lawyers, a partner in the dispute resolution and advisory team. He explains what happens when people are trapped in the red.

1. What exactly is bankruptcy when it comes to an individual?

At its simplest, it's when an individual can't pay their debts to creditors such as the tax office, a bank or a supplier of goods.

That sets off a legal process where a bankruptcy trustee who is registered with the Australian Financial Security Authority (AFSA) is appointed to administer an insolvent individual's financial affairs.

The intention is for the bankruptcy trustee to provide for a fair distribution of that person's divisible assets to their creditors. Again, as an example, they may sell a property and then divide the proceeds between creditors.

2. Is there a material difference between being made bankrupt and self-declaring bankruptcy?

The main difference is who typically gets to choose or appoint the bankruptcy trustee who is going to divvy up the assets.

There are two ways an insolvent person can become bankrupt: through a self-initiated process called a 'debtor's petition' or by a creditor-initiated process called a 'creditor's petition'.

The creditor-initiated process first requires a creditor to issue a bankruptcy notice, and for that notice to expire, before commencing proceedings seeking to make the insolvent person a bankrupt.

This will generally result in the creditor selecting the bankruptcy trustee, who is ultimately appointed over the insolvent person's affairs.

In comparison, the self-initiated process is relatively informal and requires the lodgement of certain forms with the Australian Financial Security Authority (AFSA). This will generally result in the insolvent person selecting the bankruptcy trustee.

Once the bankruptcy commences, there are no differences to the way in which the bankruptcy trustee undertakes the administration of the insolvent person's affairs.

3. What resources or assistance can people on the verge of bankruptcy can access?

There are several resources available for people who believe they might be on the verge of bankruptcy.

For example, ASIC and AFSA publish helpful guides setting out what bankruptcy is and what it entails.

In addition to the general information available online, most bankruptcy trustees will publish material about bankruptcy and will happily engage with people who might be considering bankruptcy to discuss whether it is the right process for them, or whether there are any other options available.

4. Please take us through the steps that happen prior to being declared bankrupt.

This really depends on the type of bankruptcy.

The key thing here is that individuals act early in talking to an adviser. Bankruptcy is not always inevitable.

Every insolvency expert will tell you that not ignoring financial challenges and acting early increases your chances of not being declared bankrupt.

5. How long does bankruptcy last and what are the repercussions for travel, employment, renting?

An insolvent person's bankruptcy automatically ends three years after the filing of the statement of affairs (which is a statement prepared by the insolvent person setting out their personal affairs and financial information, which is provided to the bankruptcy trustee).

There are some circumstances where the bankruptcy period can be extended (for up to eight years). Extensions may be sought in circumstances where the insolvent person has failed to cooperate, leaves Australia without permission, manages a company without first getting court approval or engages in misleading conduct.

While bankruptcy may not stop an insolvent person from being employed, owning a modest motor vehicle, applying for a passport, renting a home, obtaining nominal credit or travelling within the State in which they were declared a bankrupt, there may be some conditions which are imposed.

For example, where an insolvent person earns over certain thresholds, they may be required to pay certain amounts to the bankruptcy trustee to enable the payment of creditors. Those thresholds change depending on the number of dependants but start at $66,639.30 (after tax) and then increase on each additional dependant.

Further, an insolvent person is entitled to retain their tools of trade to a total value $4200, a motor vehicle to the value of $9100 and obtain a maximum amount of credit (without disclosure) in the sum of $6717. These amounts are amended each year.

One further repercussion is that an insolvent person will require the bankruptcy trustee's consent if they wish to travel overseas during the bankruptcy period.

The failure to do so can have serious ramifications, including up to three years' imprisonment.

6. What conditions do they need to abide by for the duration of their bankruptcy?

The conditions are set out as above, but one other thing that is noteworthy is that people can become bankrupt for a whole range of reasons - often out of their direct control.

In Australia, we tend to picture anyone who is bankrupt as the person being chased down the street by an A Current Affair reporter firing questions at them.

In the US, some very successful businesspeople and individuals will openly talk about their experiences of going bankrupt before they found success. You can emerge from bankruptcy and get on with your life.

7. How does someone who has gone through bankruptcy get discharged?

A period of bankruptcy can end in two ways.

First, the bankruptcy period of three years expires and there is no application by the bankruptcy trustee to extend the period. Second, it can be annulled (as if it never existed).

This can usually only be achieved if:

• The bankruptcy trustee obtains sufficient monies to pay out the creditors in full;

• The insolvent person comes to an agreement with the creditors to pay a reduced sum in full and final settlement of the debts which they owe; or

• The insolvent person is successful in convincing a court that the order to make the insolvent person a bankrupt should never have been made.

8. Are there any ongoing consequences once someone has been discharged?

There are no legal consequences following an insolvent person being discharged. That being said, it is not uncommon when obtaining credit (for example, for a post-paid mobile phone plan or for a credit card) for providers to request information as to whether the applicant is an undischarged bankrupt. While it may not be the sole basis for the application to be rejected, it may be a contributing factor.

9. What debts can/cannot be discharged under bankruptcy?

Most unsecured debts such as credit and store card debts, personal and payday loans, utility and phone/internet bills, overdrawn bank accounts, unpaid rent, medical costs, legal costs and accounting costs are all included in a bankruptcy.

Certain debts are not caught by the insolvent person's bankruptcy. They include court-imposed penalties and fines, child support and maintenance obligations, HELP debt and debt that you incur after entering into bankruptcy.

10. Strata schemes, tax debt and unemployment are common triggers for bankruptcy. Are there any more that people should be aware of?

In the current economic environment where a near-record number of companies are being placed into liquidation, we are seeing a significant increase in insolvent persons declaring bankruptcy due to a failure to pay a company debt after providing a personal guarantee to the creditor.

These debts can range from bank finance to trade suppliers, especially in the building and construction and hospitality industries. [In the March 2024 quarter, just over a quarter of personal insolvencies were business-related].

In addition, the tax office is much more active in seeking to attribute company debts to directors personally, in circumstances where they remain unpaid for a significant period of time. This has also resulted in a general increase in the number of bankruptcies in 2024.