Exit with strings

The Government agency overseeing personal insolvency in Australia has been receiving proposals for debt agreements at a rate of 1000 a month – a record pace that, if maintained, could mean a 50 per cent jump in such insolvencies this financial year.

David Bergman, the inspector-general of bankruptcy and acting chief executive of the Insolvency and Trustee Service Australia, says it dealt with more than 1000 proposals in May, more than 1100 in June and about 900 in July. Extrapolate those figures and that comes to 12,000 to 13,000 proposals a year.

Not all proposals go on to become agreements but at the current acceptance rate of 80 per cent, that could mean 10,000 debt agreements in 2008-09, compared with the 6619 signed in the past year.

Bankruptcy and debt agreements are the two main options open to individuals who are insolvent – defined as not being able to pay your bills as and when they fall due.

Bergman says these options are used by slightly different groups. “There are people who are insolvent who don’t necessarily have to go bankrupt,” he says of those who use debt agreements.

These people might not be able to meet their bills in full when they fall due but they might be able to pay something and dig themselves out of a hole by taking steps such as moving in with family for a while.

Debtors are eligible to propose a debt agreement if they haven’t been bankrupt and have an after-tax income below $60,200 and unsecured debts of less than $80,262.

The advantage of a debt agreement over bankruptcy is that debtors are not forced to surrender assets. But they must be aware that a debt agreement proposal and any resulting debt agreement are both permanently recorded on the National Personal Insolvency Index and that their credit rating will be affected.

Debtors must make their “best offer” to creditors – a number of cents in the dollar that they propose to pay back – based on their expected income and expenses, and their personal circumstances. The offer must be “achievable and sustainable”. Creditors vote upon the proposal and it may be accepted or rejected. The proposal will appear on the insolvency index either way.

Debt agreements have been around since 1996 but concern about aggressive marketing and upfront fees being charged by private debt agreement administrators led to changes to the law governing them from July 1 last year. Debt agreement administrators must now be certified and can no longer put themselves first in line to be paid. In addition, there is improved disclosure of debtors’ circumstances.
Bergman says last year’s changes were aimed at restoring creditors’ confidence in debt agreements, which had an unacceptably high failure rate because they were being signed by people who really couldn’t afford to follow through, encouraged by administrators who were more interested in fees than a successful outcome.
“Anyone could be a debt administrator and standards of practice were not high,” he says.

Jan Pentland, who heads the Australian Financial Counselling and Credit Reform Association, says the amendments to the Bankruptcy Act were positive changes “but we’re not sure how they’re playing out yet … I hope [debt agreements] are working well but we can’t be confident about that at the moment.”

Pentland says her concern remains that debt agreements are still being pushed as a “fix-all” when they are not. “They’re one option that people may want to consider but it is better to explore all their options,” she says. They are more likely to do that if they see a financial counsellor, a free service, rather than someone who stands to earn fees from a debt agreement.

David Tennant, the director of the Care Inc Financial Counselling Service in Canberra, says he shares Pentland’s concerns.

“If there’s a genuine option that provides people with a pathway that’s less than bankruptcy, then that’s a good outcome,” Tennant says. “But if what you’re doing is encouraging someone else to take money in that process, that doesn’t benefit either the debtor or the creditor.”

He would like to reopen the question of whether debt agreements should be recorded on the National Personal Insolvency Index. “If you’re going to say to people, ‘Here’s an option short of bankruptcy that allows you to re-establish your financial affairs,’ then having it recorded in perpetuity in the same manner that bankruptcy has, always seemed to me to be a significant structural flaw.”

Bergman says this issue was considered in last year’s review but the insolvency service and the Government took the view that people who enter into debt agreements are not paying their creditors in full “and that’s something [other potential] creditors should be entitled to know”. However, he says, the service advises major creditors to appreciate the difference between a debt agreement and bankruptcy.