Can debts go ‘unpaid’? Who says New Zealand has no support measures for businesses?

The business debt hibernation scheme was urgently developed and introduced by the New Zealand Government in response to the COVID-19 pandemic. It is significant, yet not widely understood. The scheme aims to help companies, partnerships, trusts and incorporated societies established before 3 April 2020 deal with and manage certain existing debts. Because of COVID-19, these entities are temporarily unable to repay their debts immediately, but are highly likely to be able to repay them successfully in future.

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What does the business debt hibernation scheme do?

The scheme allows eligible businesses affected by the COVID-19 pandemic to temporarily stop repaying existing debts, or at least arrange for payments to be held in escrow, for up to seven months, helping them return to normal trading.

During the first month of the seven-month protection period, affected businesses can enter debt hibernation by notifying the Companies Office and providing additional information, including their proposed debt hibernation arrangements for the following six months or potentially longer. The details are settled through a meeting or postal vote. The business must send its proposal to all creditors who may be affected and allow at least five working days before the voting deadline.

If at least half of the business’s creditors, measured by both creditor numbers and debt value, support and accept the proposal, its debt hibernation proposal is deemed accepted. All creditors holding existing debts covered by the business’s debt hibernation scheme are then bound by the majority agreement.

During the first month while a solution is being sought, and for six months after the proposal is approved, all creditors bound by the arrangement, including those who voted against it, cannot take enforcement action to recover the business’s existing debts, unless a creditor successfully applies to the court for an exemption on special grounds. However, this moratorium does not apply to new debts incurred after the business’s debt hibernation proposal is approved.

Approved business debt hibernation ends automatically when the protection period expires. It can also end early if the business sends advance cancellation notices to the Companies Office and all its creditors; if it reaches a formal creditor compromise under the complex provisions of section 14 of the Companies Act 1993; or if it enters voluntary administration under section 15A of that Act following the appointment of a receiver or liquidation.

Given the nature and effect of the business debt hibernation scheme, any liquidation during an approved hibernation period naturally cannot be ordered on the basis of existing debts owed to creditors already bound by the scheme. A liquidation order could, however, be based on unpaid debts incurred after the business debt hibernation arrangement was approved. More likely, liquidation could proceed by shareholder resolution because the business is insolvent.

Which businesses qualify for the scheme?

Eligible businesses must meet all three of the following requirements:

• They must have been established before 3 April 2020;
• They must be a specified type of business;
• And participation in the scheme must be ‘viable’.

Eligible business types include charitable trusts, companies incorporated in New Zealand and overseas, friendly societies or incorporated societies, limited partnerships, and unincorporated partnerships and trusts. Unfortunately, sole traders are not eligible for the scheme.

A business is considered ‘viable’ if:

(a) As at 31 December 2019, it could pay its debts as they fell due in the ordinary course of business; it has not entered liquidation, voluntary administration or any similar process; and

(b) The entity’s board, or equivalent governing body, believes on reasonable grounds, taking account of current financial forecasts and other criteria, that the business is likely to be able to pay its debts as they fall due on or after 30 September 2021.

Bear in mind that not all debts can be included in the business debt hibernation scheme. The scheme cannot cover debts owed to creditors under a general security agreement, wages owed to employees, employee PAYE owed to Inland Revenue, or new debts incurred after business debt hibernation is approved. This does not exclude ‘later’ debts arising from obligations that existed before hibernation was approved, such as ongoing rent obligations.

What are the advantages of business debt hibernation?

• It is straightforward to use and widely applicable.

This legislation is simpler, faster and more affordable than the more complex and little-known formal legislation that existed before COVID-19. Previously, the main measures for dealing with business debt repayment included creditor compromises under Part 14 of the Companies Act 1993, formal applications for court-approved administration or compromises under Part 15, or voluntary administration under Part 15A of the same Act. By comparison, business debt hibernation is regarded as an emergency response to the sudden impact of COVID-19, offering a simple, fast route and approval process. The process is straightforward and available to many business entities.

• A lower approval threshold makes acceptance relatively easy.

The scheme also sets a more achievable threshold for creditor approval: 50% by both number and value. By contrast, a formal compromise under Part 14 of the Companies Act requires at least 50% of creditors, representing 75% of all debt owed to creditors.

• Applications are simple, with automatic protection while approval is pending.

Although businesses should generally seek at least some professional accounting and/or legal support and advice, they can use existing templates to prepare documents and submit a proposal quickly. They notify the Companies Office of their proposed arrangements, then send the required proposal and supporting documents to all eligible creditors holding current debts, asking them to vote by post within as little as a week. Meanwhile, the business automatically receives protection against debt enforcement while its proposal awaits approval.

Where can you find more information?

The New Zealand Companies Office website provides detailed guidance on the business debt hibernation scheme, along with document templates and other materials available to download. Visit:
https://www.companiesoffice.govt.nz/covid-19/business-debt-hibernation

This article is for general information only. Its legal content is necessarily general and should not be treated as legal advice. If you need specific legal advice on any legal matter, you should always engage a lawyer to provide it.