Insolvencies climb as the ATO ups the pressure on directors

JobKeeper unemployment insolvencies

Source: AAP/Bremdon Thorne.

A sharp jump in insolvencies has confirmed concerns that the long-delayed wave of pandemic collapses has finally started to break, just weeks after the Australian Tax Office issued thousands of warning letters to companies in debt. 

New figures released this week show the number of companies entering external administration in March climbed to 463, a 30% jump on February and nearly 80% higher than January. 

It is the worst result since March 2020 and shows the patience of Australia’s biggest creditor has finally run out. 

But businesses now sweating on an ATO warning letter need to get on the front foot with the tax authority, rather than hope long-standing pandemic debts will be ignored or forgiven.

The letter was merely the first shot across the bow from the ATO, but companies that don’t act can then be served with a Director Penalty Notice (DPN). This gives directors 21 days to pay the debt or put the company into liquidation. 

If the March figures are bad, April and May are likely to be worse. 

Snowballing tax debts

Understanding what is about to happen means looking both at the current challenges facing business, from inflation to labour shortages and in many cases reduced sales, as well as the cumulative impact of fighting on through the pandemic. 

A business under pressure will often defer tax payments first, but this approach can rapidly snowball. 

In March, many thousands of directors would have received a letter stating the amount of tax owed and warning that action will likely follow. 

While it is not known how many companies are on the receiving end of these letters — estimates range from the tens of thousands to the hundreds of thousands — the ATO has a perennial problem with businesses not paying tax. 

The tax office has previously described about 4% of the SMEs it randomly checks out of the cohort of 4.2 million small businesses as deliberately engaging in ‘shadow economy behaviour’. 

If that proportion holds true, it translates to nearly 170,000 businesses across the country. 

Then there is a much bigger percentage that wants, and tries, to comply with their tax obligations but cannot. 

What this boils down to is an outstanding tax debt of $34 billion as of June 2021 — before Melbourne’s 77-day Delta lockdown and the months-long Omicron wave.

It took more than a decade for the ATO to claw back or write off the debts of the 2008 Global Financial Crisis and it simply can’t wait that long this time, so it is moving, and moving faster than many businesses would like. 

Insolvencies re-commencing

The latest set of figures show an uptick in insolvencies that has long been expected, given the number of companies entering external administration has been about half of long-term averages for the past 2.5 years. 

The suppression of insolvencies was a deliberate strategy by government, with both limits on action by creditors and the underpinning support offered by JobKeeper helping to keep collapses at bay. 

But the insolvency system plays a critical part in the economy. 

As much as failed business owners might hate to admit it, you can’t simply have businesses operating while insolvent or unable to manage and pay debts. 

Keeping a failing business alive without any real hope of recovery simply amplifies the risk, as suppliers and creditors find themselves unwittingly propping up a business that might never pay. 

For those who have a genuine chance of recovery, though, there is no time to waste. 

What SMEs can do

The first step for a business with debts to the ATO, now staring at a potential wind-up notice, is to get your house in order. 

The ATO takes a dim view of Business Activity Statements (BAS) that haven’t been lodged and deadlines that get ignored. Hoping your situation goes unnoticed is not a strategy here. 

In every situation, you are better off being proactive and getting in touch with the ATO before it gets in touch with you. 

If you want to organise a payment plan, your only strategy is to be on the front foot, and demonstrate a willingness to work with the ATO to identify and repay debt. 

If the debt is too much to pay right now, you will also need advice on whether it can be managed and over what time frame it can be paid. 

This again requires some honest conversations with your accountant about what funds you have in reserve and what your prospects are of paying down what you owe. 

And if the news is grim — you simply can’t repay the outstanding tax in a reasonable time frame or the business no longer cover its debts — get advice now about exiting with the least collateral damage. 

For many businesses that go under, the greatest impact is not losing the operation but the reputational damage, disruption to lives and burning of relationships.

A clean and dignified exit is possible, but again, only if you are brave enough to take proactive steps.

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Cliff Sanderson
Cliff Sanderson
14 days ago

Hmmm. Whist 463 insolvencies for March 2022 is an increase on the two months prior, it remains off a very low base. March 2019 was 718!!!! Insolvency is still way off pre-COVID levels.

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