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What Does Insolvency Mean for Sole Traders?

What Does Insolvency Mean for Sole Traders?

Insolvency means different things for different business types. Find out how it will affect sole trader business structures in this article.

12th September 2019

There are different procedures to insolvency for companies and sole traders. This difference is because of the structure the businesses are set up. This guide will explore the avenues in which sole traders can rely on to prevent themselves from going bankrupt.

Sole Traders

A sole trader is a business structure where you are the only owner and operate under a designated Australian Business Number (ABN). It is the simplest and cheapest way of setting up a business because of its low cost structure. However, as a sole trader you are liable for the liabilities and responsibilities that your business incur. This is because you and your business is not a separate legal entity.

Insolvency

As a sole trader, it is important for you to know when you are at a risk of debt or when you know you are not going to be able to pay your bills. Insolvency occurs when a person or a company is unable to pay off its financial obligations when they are due. This is different from bankruptcy as bankruptcy is the actual designated legal status of not being able to repay your debts. You can file for bankruptcy voluntarily or by Court order. As a result, there are still various measures you can refer to prevent yourself from filing for bankruptcy.

What does it mean for sole traders?

If you are at a risk of insolvency because of accumulating debts, it is recommended that you seek professional advice. You can do so by consulting an accountant or business lawyer. This is because your business’s liabilities are considered as your own. Therefore, creditors are able to pursue your personal assets if your business is unable to repay its debts. Subsequently, there are three options you can rely on to prevent this from happening:

1. Declaration of Intention

A declaration of intention allows you to freeze your debts for 21 days. This means that unsecured creditors will not be able to enforce and collect their debts within that time period. This allows you to use those 21 days to find a way to manage your debt and find other solutions.

2. Debt Agreement

A debt agreement is an agreement between you and your creditors. The agreement is a proposal whereby you can offer to settle your debt in ways which suites you. For example, you can propose to the creditor to pay a lump sum payment (but at a value less than the debt), or pay through installments, or to freeze the debt until you are financially stable. However, this depends on the discretion of the creditor. If the creditor accepts it, usually, your income, assets and liabilities,

3. Personal Insolvency Agreement

A personal insolvency agreement is similar to a debt agreement. The major difference is that it involves in you appointing a trustee to take control of your assets and manage it. Your controlling trustee will essentially be the middle-man between you and your creditor.

Conclusion

As a business owner, you are at risk of being insolvent if you are unable to pay your debts. Although insolvency does not lead to bankruptcy, if it is sustained for a long time, it will lead to one. As a result, you will need to resort to the various measures mentioned previously to prevent yourself from becoming bankrupt. To read more on how insolvency affects sole traders, you can find information through the Australian Financial Security Authority.

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Author
Ryan Tjahjono

Ryan currently works in the content team as a Legal Intern for Lawpath. He is in his third year of a Bachelor of Law and Business degree at UTS.