When a market is in relative good health, there is a good chance economists will be predicting a future decline. In light of the current press on New Zealand’s economy, this article explores some things that can happen, in a legal sense, during a market decline.
A person (including corporate persons and trusts) that is insolvent, put simply, is a person that cannot pay debts as they fall due. The implications of insolvency depend on whether that person is an individual, a company, a trust or another type of entity. However, in all cases the risks to that person’s property/assets are much the same.
Creditors (parties to whom the insolvent person owes money) have certain rights that crystallise upon the person’s insolvency, including:
- A right to place the person, if an individual, into bankruptcy;
- A right to place the person, if a company into receivership or liquidation; and
- A right to seek the return of sums paid by the person to other creditors or third parties back to that person to pay the debt (or a portion of it).
The person that is insolvent is able to take steps to delay or stop the above (and other steps) by creditors and it falls to the Courts to make orders that the above steps are carried out. However, in a market decline where capital to defend claims by creditors may be scarce it is often difficult for a person that is being pursued by creditors to stave off the inevitable.
If a natural person is adjudicated bankrupt, their assets are placed under the control of the Official Assignee. The Official Assignee is then able to use those assets to pay that person’s debts. The insolvent person is restricted from certain activities and roles and the effects of the bankruptcy survive until the insolvent person applies for a discharge from bankruptcy.
In certain circumstances, sums that may have been paid or gifted by the insolvent person to creditors, related parties or third parties may be clawed back by the Official Assignee to be added to the pool of assets available to satisfy debt.
Where the insolvent person has no realisable assets and the debts are less than $47,000, the Official Assignee may take a step short of placing the person into bankruptcy. The process involves using the “no asset procedure” in the Insolvency Act 2006 which allows the person to resolve their short term credit problems.
Receivership is a process in which the assets of the insolvent company are placed under the control of a receiver. The receiver then uses the assets of that company and income that continues to be derived from the company’s business, to pay the debts and attempt to negotiate terms with the creditors such that the company may trade out of insolvency. If the receivership is successful, an application may be made to the Court to remove the company from receivership. If the receivership is unsuccessful, the company may be placed into liquidation.
In liquidation, the assets of the company are sold to pay debts and the company is eventually removed from the register.
A company may, before receivership or liquidation is triggered, place itself into voluntary administration to, hopefully, improve the outcome of the insolvency to the company and its creditors. However, the process is complicated and therefore still requires an administrator to be appointed and relies on the creditors’ cooperation. Advice should be taken before taking steps to enter voluntary administration.
If the insolvent person owes money to a landlord, to whom they are obligated to pay rental, the landlord may (in addition to pursuing the debt):
- In a commercial tenancy (for instance office or warehouse space) seek an order from the Court to lock the tenant out of the premises and require the tenant to remove its property.
- In a residential tenancy, apply to the Tenancy Tribunal to terminate the tenancy.
Both parties should take specialist advice on eviction and termination.
Mortgagee sales are a common occurrence in a market decline. When entering into a mortgage with a lender, the borrower agrees that money against which the mortgage is secured, if they are unable to pay the interest and/or principal, the holder of the mortgage security may sell the property to pay off the loan.
Similar rights accrue to holders of other securities such as those that might apply to cars and other personal assets.
Anyone experiencing credit problems or finding it difficult to pay debts as they fall due should seek immediate advice so that early intervention is possible and the best outcomes can be achieved for all involved.