As an accountant you are normally the first to know when a client is in financial trouble. This would a good time to advise insolvency as a solution.
What is insolvency?
Insolvency is an excellent mechanism to use to achieve stability and one does this by using one’s assets to get rid of creditors (sequestration) or to liquidate a company. There are many tools to use in successful business management, and insolvency is merely one of them when the time is right.
Thirty years versus four years
Judgment taken by a creditor is valid for THIRTY years or until the debt has been paid in full. One can rehabilitate FOUR years after sequestration. During the four years, life carries on as per normal. There are circumstances where one can rehabilitate sooner. In the base of a business that is liquidated, it does not really affect the person, as he/she can immediately switch entities and carry on with business.
Protect a business by “losing” it
Where a client’s business is successful, but is burdened by too much debt, a quicker road to recovery than dealing with creditors would be to liquidate the Company/Close Corporation or Trust as soon as possible. The energy that goes into attempting to deal with creditors that one cannot pay in any case, is energy that should be focused on building a business. A new entity can be registered and the person can continue with trading whilst liquidating the old company.
It is possible to carry on with the business and to carry on earning an income
Insolvency is not only used in the here and now. The whole process should be geared up to holistically to create a new life for your client. If he/she needs to carry on with business, there are a few solutions. During a consultation one can take care of this, but it is definitely possible for a person to carry on with the one’s business even if the old company is liquidated. A consultation will make all this clear. If it is a salaried person, nobody is interested in the salary that is earned and it does not vest in an insolvent estate. If the person sequestrates, the difference is that the income goes to the person and not to the creditors for the next how many years, so one can start to create wealth immediately.
Myths about insolvency:
There are many myths about Insolvency: “I will loose everything; my creditors will attach my income; I can’t carry on with my business, I must still pay the debt….” None of these are true. Tools of the trade, for example, does not form part of an insolvent estate. A plumber, for example, will be able to carry on with his business with his own tools as it can be negotiated that his tools can be excluded from the insolvent estate. Furniture and other items can be purchased back from the estate by the debtor. Moveables are valued at second-hand value which is very low and can be purchased back and paid off for over a year. Insolvency is exactly used to achieve the goal of keeping one’s business going and remaning as stable as possible, but without the burden of debt.
Difference between liquidation and sequestration
Individuals sequestrate and businesses liquidate. For individuals, there is a requirement of a benefit to creditors which means that ideally there should be assets (immovable property or other valuable assets). For businesses the requirement of a benefit to creditors does not exist and an entity can be liquidated by resolution. The reason for this is because the Companies Act, the Close Corporation Act and the Trust Property Control Act determine that any of these entities whose liabilities exceed its assets must liquidate.
Donald Trump was sequestrated twice. He understands that insolvency is the leverage to use when things don’t work out and to start over as soon as possible and focus on the right things.
What happens if a person does nothing with regards to debt?
If a person cannot pay his/her debt and does nothing about it, chances are excellent that creditors will attach assets and sell it in execution. However, the prices fetched at auctions are minimal and the debtor is nearly always left with a shortfall. Where the majority of bonds are over R1 million, the debtor will probably end up with a shortfall of at least 50%, which would cripple him/her for the next THIRTY years. (Judgment taken by a creditor stands for thirty years or until the debt has been settled in full). This is an untenable situation and should be avoided at all costs. Apart from this, all other creditors will remain due and payable. Sequestration stands for FOUR years after which the person can rehabilitate and get back to normal.
Live in the property without paying for 4 – 6 months
As soon as the decision is made to sequestrate, one stops paying all debt – even towards the bond and rates and taxes (only water and electricity is paid). The person can live in the property for free until the estate is wound up, which is normally 4 – 6 months from date of application for sequestration. This gives an excellent period to get cash together to rent a property when the time arrives to move out.
Insolvency gets rid of all creditors
If a creditor attaches an asset and sells it in execution to satisfy its claim, the creditor only worries about the creditor. Most of the time, especially when it comes to property, the price fetched at a forced auction is not enough to cover the outstanding debt. The debtor is then left with a shortfall which cripples him for the rest of his/her life or for a very long time. Plus all the other debt remains due and payable.
With insolvency, instead of letting the assets fall in the hands of one creditor who satisfy his own needs, the assets are used to get rid of all creditors simultaneously.
Never pay the debt again
Once a debt forms part of a liquidation or sequestration, it is out of the life of the debtor and nobody can ever demand that the debt is paid. It is forgotten and written off.
If a person was a member of a CC or Trustee of a Trust or Director of a Company and has signed as Surety for the entity, it is essential that the person also sequestrates if the company is liquidated. In this case timing is very important – one must sequestrate at the right time. Sometimes it is not necessary to liquidate a business, it is just deregistered and the person sequestrated. If a person has signed surety for a business, the debt will move over to his/her personal estate and he/she will therefor have to sequestrate as well. If no sureties were signed, then the person may not have to sequestrate, the company can just be liquidated (this is very rare, as the majority of creditors insist on the members/directors/trustees to sign surety).
How does one pay sequestration costs?
The moment a person decides to sequestrate, he/she stops paying all debt. The money that would have been paid towards debt, is then used to pay towards sequestration costs. If there is not a looming execution sale of the property, the person has time and the cost can be paid in instalments. The only costs that are being paid are the person’s running costs (water and electricity, telephone etc).
The above are the basics with regards to insolvency. It is a fascinating subject and needs to be fully understood, then the benefits will become clearer. It is such a fantastic mechanism that exist in our law for anybody with financial problems. It gets one out of a state of alarm and poverty into a state of calmness and back on the road to creating wealth, putting the focus where it belongs. Most people hold on too long, trying to flog a dead horse. It is best to learn to stand back and make a clinical decision instead of an emotional one: the balance sheet speaks for itself and a good business person knows when it is time to quit.
Article by an Attorney listed on our sister site - Nanika Prinsloo. Click here for her full details