Do you truly understand your director loan account and its implications? In this critical episode, Darren Vardy reveals how accumulated drawings and director loans can create devastating personal liability when a business faces insolvency. Learn why these loan accounts must be repaid immediately upon liquidation, regardless of Division 7A agreements, and discover the warning signs that indicate trouble ahead. Understand how to protect yourself through proper planning and why proactive management of these accounts is essential for every business owner.

Key Topics Covered:

• What director loan accounts are and how they accumulate • The difference between drawings, dividends, and director's fees • Division 7A loan requirements and documentation • Immediate repayment obligations upon insolvency • Personal liability and bankruptcy risks for directors • Warning signs for business owners and accountants • Small Business Restructuring as an alternative option • Strategies for managing director loan exposure

Key Takeaways:

✓ Director loan accounts become immediately repayable upon liquidation, regardless of Division 7A terms ✓ Accumulated drawings over years can create significant personal liability ✓ Proper Division 7A documentation doesn't protect you from immediate repayment in insolvency ✓ Pre-planning and securing personal finance before liquidation is crucial ✓ Ever-increasing tax debt is a key warning sign of financial trouble ✓ Accountants and business owners must be proactive in monitoring loan account balances

Who Should Listen:

Company directors, business owners with director loan accounts, accountants advising clients, lawyers dealing with corporate insolvency, and anyone concerned about personal liability in business.

Who Should Listen: Business owners, company directors, lawyers, accountants, and anyone wanting to understand financial distress warning signs.

About the Host:

Darren Vardy - Managing Director of Insolvency Options and Registered Liquidator with over 30 years of experience in business recovery and debt solutions. Darren has helped thousands of businesses and individuals navigate financial distress and find practical solutions to complex problems.

Connect With Us:

• Website: insolvencyoptions.com.au  • Phone: 1800 463 328 • LinkedIn: https://www.linkedin.com/in/darrenvardy/

Subscribe & Follow:

Don't miss future episodes! Subscribe to i.O. - Insolvency Options

Like this episode? Please leave a review and share with colleagues who might benefit from these insights.

Co-host: Anthony Perl

Produced by: Podcasts Done For You

Anthony Perl: 00:00:01

Director loan accounts, understanding your personal exposure.

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Welcome to IO Insolvency Options

with Darren Vadi, the Managing

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Director of Insolvency Options

and a registered liquidator.

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With over 30 years of experience

helping businesses and individuals

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navigate financial challenges.

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In today's episode, Darren explains the

hidden risks of direct loan accounts

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and how accumulated drawings can

create significant personal liability.

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During insolvency, he reveals why many

business owners don't understand their

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financial position until it's too late.

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And shares practical strategies

for managing director loans to

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protect yourself and your family.

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You'll learn about Division seven a

requirements repayment, obligations,

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and liquidation, as well as

warning signs that accountants and

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business owners should watch for.

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I'm your co-host, Anthony Pearl.

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Let's dive into unlocking

more about insolvency options.

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Well, Darren, hello and welcome

to another episode of the podcast.

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And we have a very interesting topic,

I think today because really is a

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situation and, uh, we were talking

a little bit about it before we

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started recording about the fact that.

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So many businesses and business

owners don't really understand their

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financial situation and their finances

in particular and what they're doing,

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and the implications of that can be

huge if things start going south.

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Darren Vardy: Yes, there are.

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Quite often we find that people are

really good operators and at the

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end of the year when the accountants

prepare their financials, they go into

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their accountants, their accountants

will sit and explain the numbers.

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They'll sign the financials and tax

returns and then move on to the next year.

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But we are often finding that business

owners don't really know what the

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financials mean other than to whether

they've made a profit or a loss.

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And quite often there are some little

skeletons in those financials that

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can bring business owners undone

in the event of a, of a liquidation

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or an external administration.

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Yeah, and I think that's

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Anthony Perl: a huge implication,

isn't it, for people.

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I think that's the, that's

the thing, isn't it?

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That you're going in there thinking, oh

yes, the accountants know what they're

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talking about and that's all fine, but

the implications of what you might have

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been doing may not necessarily be at the

forefront of the accountant's mind and

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telling you about it and understanding

what that could possibly mean.

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Darren Vardy: Yeah.

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This is, so, accountants and business

owners alike are always looking

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at the operations of the business.

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They're looking at.

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How the business is going to

survive or work through any

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financial issues that they have.

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But very rarely do they actually

think about, well, what happens

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if the company becomes insolvent

and an external administrator

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actually needs to be appointed?

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And we find that that's where

life can get really difficult

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for these director shareholders,

particularly in circumstances where

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there may have been an accumulated.

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Loan account over a period of time for

which they've taken as drawings and when

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that loan account accumulates, what we

quite often find is that as a liquidator

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or an external administrator, we need

to call in that loan account, and the

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directors and or shareholders find that

quite often they're on the receding

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end of a formal demand for repayment.

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And that can cause a huge problem,

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Anthony Perl: can't it?

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Because.

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If they've need to repay it,

where are they repaying it from?

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Darren Vardy: This is the big thing, and

you know, quite often one of the reasons

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why businesses fail is lack of capital.

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So if the directors or shareholders

don't have the wherewithal repay,

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then worst case scenario is that they

could end up filing for bankruptcy.

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Now, we understand during a business

lifecycle cycle, things get tight.

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Cashflow gets tight for

one reason or another.

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There's some very good reasons why these

directors would choose to take drawings

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as opposed to wages through the, you know,

single touch payroll system and the like.

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And quite often they're guided by

their accountants as to the best

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way to run their business and, and

draw their money in the moment.

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And it's okay to take drawings

and quite often what happens is

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that at the end of the financial

year, an accountant generally will.

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Convert those drawings to a formal

dividend for which the shareholder

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will pay tax in their own right.

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The accountant may even convert some

of those drawings to director's fees.

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Again, a director will account for the

tax in their own personal right, but when

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based with not making profits, ongoing

trading losses, directors are unable

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to take those funds as a distribution

of profit because there is no profit.

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The converting those funds to a director's

fee will quite often see trading

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losses become further exacerbated.

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So what happens is that we've found

is that the accumulation of those

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loans will simply accrue year on

year, and that then leads to the

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increased exposure of the directors and

shareholders for those loan monies in

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the event of an insolvency situation.

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Anthony Perl: And paint the picture.

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I guess you've seen this a few times

before, that this situation is that

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the business is probably flying

along doing okay, and so these.

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Things that they've been doing in terms

of drawings have happened and then for

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whatever reason, things start going south

and nobody's stopped to kind of work

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out that this is going to be a problem.

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And when they do find themselves in

this situation, you don't, you don't

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want to be going towards bankruptcy

and you don't want to start eating

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into personal finances as well.

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But that's the reality, isn't

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Darren Vardy: it?

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Anthony Perl: The

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Darren Vardy: reality of it is.

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Funds need to re be repaid and the

majority of circumstances I've seen

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of late in recent years is that the

division of seven a paperwork is in place.

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So the loans are all signed off.

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Uh, legitimate interest is

being paid back on an annual

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basis for the funds taping out.

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However, the real issue

is the insolvency event.

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Upon the appointment of a liquidator,

the funds are repayable immediately

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irrespective of the number of years.

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Those loan division seven a loan accounts

are in enforce, which is generally seven

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years or 21 years if security is provided.

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So it also changes the dynamic of

when the funds are in fact, repayable.

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So a director or a shareholder

might be sitting there saying,

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well, look, that's fine.

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I have my paperwork in order.

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I'm repaying the interest as I'm meant

to every year, and I'm paying down

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the loan account as required odd loan.

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But it's that immediately repayable

position that is faced upon

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external administration, which can

come at a bit of a shock to the

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directors and shareholders also.

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Anthony Perl: I mean, what happens in

that situation for someone if they're

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suddenly having to repay a sizable loan

and they've gotta do it immediately?

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Darren Vardy: So.

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As a practitioner, after we issue the

demand, what we often find is that the

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directors and shareholders will then

need to look toward borrowing funds.

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Personally, if they've got equity and

property, they may need to go back to

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the bank to borrow the money to repay,

but it's really hard to borrow money

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when you have a, a strife against your

name, having been a director of a company

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that's gone into in the liquidation.

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So sometimes a little bit of

pre-planning might be required to

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say, well, hey, I have this loan.

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Liquidation is looming.

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We need to repay it.

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Maybe we need to get our personal

financials in order so that we can repay

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it as and when we put the company into

liquidation, because it's so much harder

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to borrow money, if at all, once the

company goes into external administration.

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So you might actually find

that some director shareholders

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are forced to sell it home to

actually repay the loan account.

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Anthony Perl: And that's a, a huge thing.

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But of course that also

doesn't happen quickly.

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So if you are being forced to pay back,

how many, how much leeway is there?

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Because we all know that selling a

home doesn't happen in 30 seconds.

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Sure.

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Darren Vardy: And, and this is

where we get down to, you know,

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the practicalities of the process.

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Most insolvency practitioners

I'd like to think are commercial.

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And if there is the intent of the

directors and shareholders to sell

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the home, what we quite often find

is that there will probably be an

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allowance so long as there is the sale

within a, a reasonable period of time.

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And it might be that the

practitioner will request some

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form of security over the property.

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Such as a catered or the like, just

to better secure their position to

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ensure that when the house does get

sold, they get paid immediately, ACT

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settlements to discharge that debt.

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There are many different options

available, and that's up for discussion

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with the independent practitioner.

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So let's go

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Anthony Perl: back a little bit

because one of the things that you said

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there that I think is a key is about

pre-planning and understanding that

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you might be going down that pathway.

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Is that something in your experience

that many both accountants and

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business owners think enough about?

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Darren Vardy: It's the old adage of

you don't know what you don't know.

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So for myself, it's a matter

of educating the accountants.

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So they understand the implications of

insolvency and therefore if with one

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of their clients, they're faced with

this situation, they can properly and

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appropriately advise their clients

what they need to do prior to actually

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initiating the appointment of a

liquidator or an external administrator.

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Anthony Perl: And I guess that's

about courage as well, isn't it, from

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an accountant and being able to talk

frankly, to a client and saying, look,

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we don't want you to go down this path.

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We don't want you to be here, but this

is a possibility and we need to plan

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for the possibility just in case, so you

don't find yourself in a worse situation.

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Darren Vardy: Absolutely.

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And what we're finding is that with

the advent of business advisory, a lot

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of accountants who do focus on that

do are starting to understand and do

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understand the implications and are happy

to advise their clients accordingly.

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Anthony Perl: It is a hard

conversation to have, right?

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Um, and that's saying someone, look,

there's a great possibility here

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that your business is not going

to pick up as you might think.

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And even though we want

to be positive here.

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Y you have to look at what the

implications are and understand

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it and get them mapped out.

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Darren Vardy: Correct.

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And you know, it's the role of the

proactive accountant in my view.

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You know, the accountant is

at the frontline generally.

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They're generally seeing the

numbers minimum or maximum, I

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should say, on a quarterly basis.

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So they will know and they'll be able

to see how the business is going.

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And it's a matter of putting their hand

up and really raising the issues that

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they see with their clients to allow

them to pivot and look at the real issues

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and try and establish a turnaround.

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And if not, you know,

playing for the worst.

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And

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Anthony Perl: I guess, what sort

of businesses are we talking

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about here that you tend to see

a fall into this trap a fair bit?

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I mean, is it because they've got teams,

they've got lots of things that they're

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renting or having to purchase in advance?

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Are there some key kinds of

businesses where this is a

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red flag of, of a possibility?

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Darren Vardy: There's no particular

industry or size of business that we see

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this in, but typically what we do see is

businesses whose cashflow is strained.

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We quite often find that they are

small to micro businesses, and whilst

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we have the small business restructure

regime in place, my experience is that.

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Unless as part of the restructure plan,

the repayment of low, those loan accounts

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are going to occur in a reasonable period.

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Creditors are less inclined to vote in

favor of, of those restructure plans.

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Just talk

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Anthony Perl: to me a little

bit about that option there.

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That's for small businesses

that is available.

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Darren Vardy: So small business

restructure is effectively available for.

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Any business, any company which

has less than a million dollars in

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overall debt contingent or otherwise.

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And it allows the business owner to

put a plan to creditors to repay the

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debts that they owe in full in part,

over a period of up to three years.

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Now to avail yourself of a small

business restructure, you must have your

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financials and lodgements up to date.

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Your superannuation and any SGC

applicable must be up to date and you

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mustn't have gone through any type of

SBR process in the last seven years.

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The beauty about the eligibility criteria

is that the financials are reliable

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when you're looking at 'em because

of the lodgements being up to date.

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So therefore, when it comes to creating

a plan, working out what needs to

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be done, it is a lot easier to.

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Determine the best outcome for all

creditors based on a better known

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Anthony Perl: financial position.

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I mean, just to wrap this part of the

discussion up, Darren, I mean, what are

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some of the warning signs, both for a

business owner and also for an accountant

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to be looking out for, to say, well,

we've gotta start preparing just in case.

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Darren Vardy: I think the easiest

sign to look at in this day and

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age is just the ever accruing tax.

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If the tax debt is starting to creep

up months by month, quarter by quarter,

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and there's no real indent being

made by muddies being repaid, that's

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a fairly simple key indicator for

both accountants and their clients.

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Then you've got other indicators from

a business perspective, like you know,

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your accounts receivable not being

paid in a timely manner, leading to

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cashflow issues, to which then leads

to your accounts payable, starting

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to slowly drag out the number of days

upon which you're being able to pay.

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Anthony Perl: I, there's some good lessons

there, and I think, again, as you said

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earlier, accountants being proactive, but

also business leaders, being realistic is

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a huge lesson to learn from all of this.

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Yes, that is correct.

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And that's all we have time for in

this episode of IO Insolvency Options.

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But in our next episode, we'll

explore business financing and

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making smart borrowing decisions.

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: 00:15:10

Darren will reveal the hidden

dangers of high interest.

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: 00:15:13

FinTech loans and why?

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: 00:15:15

Borrowing to pay all debts

without addressing root causes

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: 00:15:18

only delays the inevitable.

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: 00:15:20

It's an episode that could

save your business thousands

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: 00:15:23

in unnecessary interest costs.

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If you need expert guidance on insolvency

matters, contact Darren Vadi and his

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team directly@insolvencyoptions.com

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: 00:15:33

au or call 1804 6 3 3 2 8.

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: 00:15:37

Or you can connect with Darren on

LinkedIn details in the show notes below.

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This episode was produced by my

team at podcast done for you.com

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: 00:15:47

au helping professionals

share their expertise through

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: 00:15:50

powerful podcast content.

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: 00:15:51

If you found today's episode

valuable, please like, comment and

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: 00:15:55

subscribe to IO insolvency options

so you never miss an episode.

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: 00:16:00

Until next time, remember.

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: 00:16:02

There's always a way forward

when you know your options.