7.2.8 Effect of Bankruptcy on Debt Recovery
This section provides information about the effect of a debtor becoming bankrupt on continuing efforts to recover a debt (1.1.D.60). It includes:
- effect of bankruptcy on debt,
- recovery action as a creditor,
- debt becoming irrecoverable at law,
- debts due to fraud may still be recoverable, and
- repayment of money recovered after debtor becomes bankrupt.
Act reference: FA(Admin)Act section 95 Secretary may write off debt
Policy reference: FA Guide 7.3.1 Writing-off a Debt
Effect of bankruptcy on debt
Entering into bankruptcy does not eliminate a debt. The debt however, ceases to be due and payable for the duration of the bankruptcy.
Taking recovery action as a creditor
If there is a bankruptcy notice in place, Centrelink may take bankruptcy proceedings against the debtor by filing a Creditor's Petition in the Federal Court. This action should only be taken if, to repay the debt, the debtor has:
- property, or
- access to funds that can be used.
As an alternative to entering into bankruptcy, a debtor may enter into an arrangement under the Bankruptcy Act 1966 Part IX or Part X. A Part IX agreement is an agreement between the debtor and his or her creditors. An arrangement under Part X can be:
- a composition,
- a deed of arrangement, or
- a deed of assignment.
While an arrangement under the Bankruptcy Act Part IX or Part X is in place, no action should be taken to recover the debt by deductions. Centrelink may receive money from the debtor however, as a party to the arrangement under the Bankruptcy Act. If a Part IX or a Part X arrangement is in place or is proposed, specific advice should be sought from DSS on what action to take in the individual circumstances of the case.
Debt becomes irrecoverable at law
Once a person has been discharged from bankruptcy, a debt under the FA law becomes irrecoverable at law and is written off if the debt:
- arose before the date of bankruptcy, and
- was not incurred by fraud.
Debt incurred by fraud
The Bankruptcy Act subsection 153(2)(b) does not release a former bankrupt from debts incurred through fraud. A debt incurred by fraud is not specifically irrecoverable under the FA(Admin)Act, as the onus is on the debtor to prove that the debt did not occur because of fraud.
Not all debts that were incurred by fraud will still be recoverable after a bankruptcy has been discharged.
Explanation: The circumstances of each case must be considered to determine whether the debt is fraudulent for the purposes of the Bankruptcy Act.
When there appears to be enough evidence to establish a case of fraud, it should be referred to DSS for specific advice as to whether the debt will remain recoverable after the debtor is discharged from bankruptcy.
Repayment of money recovered by deductions
Once a person is declared bankrupt, deductions cannot be made from their FA payments to recover the debt that arose before the date of bankruptcy.
Explanation: The FA(Admin)Act requires that a debt be 'due' to the Commonwealth in order to be recoverable. A debt ceases to be due and payable for the duration of a bankruptcy.
If deductions have been made from FA payments of a bankrupt person, money recovered during the period of the bankruptcy for a debt that occurred before bankruptcy should be refunded directly to the individual.
If money was recovered by means of deductions by consent from the FA of a person who is not the debtor, the money should be repaid to the person from whose payments it was deducted.
Repayment of money recovered by legal proceedings
A complex situation arises when money has been recovered from a bankrupt by way of legal proceedings. This situation should rarely arise, as any legal proceedings should be discontinued once a debtor enters into bankruptcy. Cases involving recovery in these circumstances should be referred to DSS for specific advice.
Repayment of money recovered by garnishee
If a garnishee notice (1.1.G.10) has been issued against a bankrupt person, money recovered during the period of the bankruptcy should be refunded.
If money was recovered by a garnishee notice issued in respect of the debtor's income, the money should be repaid directly to the person who was issued the garnishee notice, or to the individual.
Recovered money should be repaid to the trustee in bankruptcy, if it was recovered by:
- a garnishee notice issued in respect of the debtor's property, and the property is subject to the provisions of the Bankruptcy Act, or
- instalments under FA(Admin)Act section 91.
If the money was recovered by a garnishee notice issued in respect of the debtor's property, and that property is not subject to the provisions of the Bankruptcy Act, the money should be repaid directly to the individual.
Example: A personal injury settlement.