Two week’s until insolvency rule change could lead to economic disaster

It might have been a tough year but 2021 could spell another disaster. A rule change on January 1 could lead to economic collapse.

Have a nice Christmas. Because once the new year hits, the foundations underneath the Australian economy will start to wobble.

We experienced a lot of pain in 2020. We also saved some up. And some of that pain will come back in 2021.

Over the last nine months, the Australian government suspended most of the rules that apply to companies going broke. It has actually been very difficult for a company to collapse this year, no matter how much money they owed to other people.

As the next graph shows, the rate of companies entering administration is far below usual.

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This year has seen less businesses go broke but that will all change on January 1.

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The rules change back on January 1. That is marked as D-Day on the graph. After that, expect the rate of insolvencies to shoot back up to 2019 levels at least. With all the pent-up problems, it could go even higher.

Insolvency professionals – the people who put companies into administration and try to either fix them up or liquidate them – expect they will have a lot on their plate in January.

One of the biggest insolvency companies is KordaMentha. They recently surveyed the industry about their expectations. Despite official data showing growth, insolvency professionals thought the recession was not over.

“Australia’s recession is really just commencing,” said Chris Martin, Partner at KordaMentha.

WHEN THE ROT SETS IN

Ever come back from a long holiday and discover you left a bunch of tomatoes in the crisper drawer of your fridge? They are now turning to sludge and covered in furry mould, and you think to yourself, this is going to be hard to clean up. It’s going to be the same when we finally look at the companies that went bad in 2020.

Some companies will have gone rotten indeed during 2020. And just like mould spreads from one rotten vegetable to another, so the collapse of one company can put others at risk.

When a company goes into administration, it does so because it has bills it can’t pay. Most of the time, the people who are owed money get very little back.

Unless you’re a bank (they have special rules and they get priority), you’re probably going to get back less than 10 cents for every dollar you’re owed. This has the potential to spiral out of control, with bad companies taking down good ones when they fail.

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Have a good Christmas because New Year could be very painful. Picture: Gaye Gerard/NCA NewsWire

For most of the last year, company directors have not been personally liable if their business trades while insolvent. That’s saved a lot of companies.

But on January 1, the rules revert and company directors could again be legally responsible. To avoid breaking the law, the safest move may be to put companies into administration.

JOBKEEPER – THE LAST LIFELINE

Of course, as bad as it is in January, it could get even worse at the end of March. That KordaMentha survey shows that insolvency professionals expect the surge in insolvencies to ramp up even higher when JobKeeper finally stops at the end of March.

For now, over a million businesses are still getting $1200 a fortnight per employee to help pay the wages bill. But that steps down in January and then stops completely at the end of March.

The sense right now in the Australian economy is that we’ve dodged the big crash.

After Christmas we will find out if that was just wishful thinking.

Jason Murphy is an economist | @jasemurphy. He is the author of the book Incentivology.