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Discharge & annulment: What's the difference between being discharged from bankruptcy and it being annulled?

A discharge concludes the legal status of a person being a ‘bankrupt’, while the bankruptcy trustee completes their duties to the bankrupt estate. Alternatively, a bankruptcy can be annulled. Discharge and annulment do not have the same legal result.

Normally, a person’s bankruptcy ends with the bankrupt being discharged—called a ‘discharge from bankruptcy’. Unless an ‘objection to discharge’ is lodged, discharge occurs automatically three years after the bankrupt’s Statement of Affairs is filed with the Australian Financial Security Authority (AFSA). Discharge releases the bankrupt from the bankruptcy; however, the bankrupt estate (property, assets etc.) continues until all matters are satisfactorily concluded. This means the discharged bankrupt is still obligated to cooperate with the trustee.

Alternatively, a bankruptcy can be annulled. Discharge and annulment do not have the same legal result.

A discharge concludes the legal status of a person being a ‘bankrupt’, while the trustee completes their duties to the bankrupt estate. Whereas an annulment reverses the bankruptcy entirely—as if it never happened, thereby removing the person from bankruptcy and ending the bankrupt estate completely.

The Bankruptcy Act 1966 allows a bankruptcy to be extended for a total of five or eight years when a bankrupt has not cooperated with their trustee, or when an offence has been committed. If an objection to discharge is lodged against a bankrupt, the discharge date occurs at the end of the granted extended period.

Discharge from bankruptcy
Commonly, a person’s bankruptcy automatically ends three years after their Statement of Affairs is filed with AFSA, under section 149 of the Bankruptcy Act. If the bankruptcy commenced via a debtor’s petition (i.e. a person voluntarily bankrupts themself), the Statement of Affairs must have been filed at the same time. Therefore, without an objection to discharge being lodged, the bankruptcy ends three years after the debtor’s petition was accepted.

If the bankruptcy commenced via a sequestration order (i.e. an order of the court), the Statement of Affairs would not have been filed at that time. The bankrupt must complete and lodge a Statement of Affairs with AFSA, and the bankrupt is discharged three years from this date.

The longer the delay in filing the Statement of Affairs, the longer the three-year bankruptcy period is prolonged. If the Statement of Affairs is never filed, the bankruptcy will continue until the death of the bankrupt; however, the estate’s conduct will continue until completed.

Discharge from bankruptcy is an automatic process of law, regardless of whether it ends at the standard three year mark, or at the end of the extended period. Usually a trustee will confirm in writing that the bankrupt has been discharged and ask for information to conduct a final income assessment.

Bankrupt to continue to assist trustee after discharge
Even though the bankruptcy ends, the discharged bankrupt is obligated to assist the trustee under section 152 of the Bankruptcy Act, as the conduct of the bankrupt estate may continue. While the estate is commonly completed within the three-year period, there are exceptions. The estate does not end until the trustee has completed all the necessary tasks. Penalties apply to discharged bankrupts that do not provide all reasonable assistance to the trustee.

Release from debts
Discharge releases a bankrupt from their provable debts. These are debts that were outstanding at the date of bankruptcy—not debts incurred after the bankruptcy commenced—and that can be proved for in the bankrupt estate for a dividend. Debts that are not provable in the estate are not released and some debts are only partially released.

Significantly, a person’s debts are only released up until the point when the bankrupt is discharged from bankruptcy, under section 153 of the Bankruptcy Act.

This allows creditors such as the Australian Taxation Office to offset monies payable to the bankrupt (after bankruptcy) against debts payable by a person before their bankruptcy.

If a bankruptcy is annulled, a person’s debts will still exist and must be satisfied in some other manner. These debts are usually satisfied in the process of getting the annulment, i.e. payment in full, or through a section 73 agreement.

Section 82 of the Bankruptcy Act sets out what debts are provable in the estate and will be released upon discharge. Frequently, all of a bankrupt’s debts fall into this category and are discharged, but there are some significant exceptions including penalties or fines and HECS debts.

Only provable debts are released. Furthermore, some debts are provable in the estate for the amount owing, but by statute are not released in full at discharge (e.g. amounts under a maintenance agreement or order given before the bankruptcy date). An outstanding maintenance agreement amount at the time of the bankruptcy is released, but amounts payable after the bankruptcy commenced are not released at discharge.

Section 82 of the Bankruptcy Act also outlines debts that are not provable and will not be released on discharge. These are confirmed by section 153 of the Bankruptcy Act that provides that non-provable debts are not released upon discharge. These sections include a liability to pay an income contribution to the trustee, debts incurred by way of fraud, and liabilities under maintenance agreements or orders.

A bankrupt should be aware that non-provable debts will survive the bankruptcy process and will need to be paid by other means.

Rights of secured creditors
A debt owed to a secured creditor is not released against the asset secured—only against the bankrupt. Valid securities in place at start of bankruptcy can be enforced against the secured asset at any time, even after the bankrupt is discharged. However, secured assets are generally sold in the three years prior to bankruptcy discharge (although there are some exceptions).

Any shortfall after the secured asset’s sale is released from the bankrupt at discharge. A secured creditor cannot recover any shortfall suffered after selling the asset secured from the discharged bankrupt. Most securities are exercised with the asset sold before the bankrupt’s discharge and any shortfall is proved for in the estate, but not always. Sometimes these assets take longer than three years to realise. In this case, the secured creditor will not recover any shortfall.

If the secured asset has not been sold before discharge, any amount proved for (an estimated shortfall) in the estate is released at discharge. That debt therefore no longer exists and cannot be claimed against the secured asset. This affects creditors that make large shortfall estimates by underestimating the value of the secured asset.

The key point, under section 153(3) of the Bankruptcy Act, is that the secured part of a secured creditor’s debt survives a discharge from bankruptcy and the deficiency is released.

Obligations of business partners, guarantors & joint debt holders
A business partner of a bankrupt is protected, as under section 153(4) of the Bankruptcy Act, a discharged bankrupt is not released from a partnership debt. These debts normally hold a joint liability under the Partnership Act 1892. These provisions also apply to people that entered into contracts or arrangements with the bankrupt, guaranteed a debt of the bankrupt, or simply have joint debts with the bankrupt. These people are liable for such debts, or their part of the debts they are liable for if the bankrupt had not become a bankrupt.

These joint debts are only released against the discharged bankrupt, not the other parties to the debt. Creditors can pursue the other parties to a debt, even after the discharge of the bankrupt, and their subsequent release from the debt from the bankrupt.

Annulment of bankruptcy
An annulment is a reversal of a bankruptcy. However, the bankruptcy will appear indefinitely on the public record (the National Personal Insolvency Index or NPII) and credit reference databases for two years from the annulment date, or five years from the date of bankruptcy, whichever is later. For an annulment to occur, a bankrupt needs to take one of the following three actions:

  1. Annulment on payment of debts in full.
  2. Section 73 proposal.
  3. Annulment by court order.

The first two actions require satisfaction of the bankrupt’s debts, at least in part, and the last one requires an order of the court.

Annulment on payment of debts in full
Under section 153A of the Bankruptcy Act, a bankruptcy is annulled if the estate has sufficient monies to pay all of the debts and the costs of the estate in full. This means that the bankrupt is now solvent and there is no need for the bankrupt estate, or a release from debts. Commonly, a bankruptcy is annulled when a bankrupt receives monies from a third party (usually a relative) or when a bankrupt’s assets are sold or refinanced.

The debts include all those that have been proved for in the bankruptcy, but also any applicable interest accrued after the bankruptcy’s commencement. The administration costs, charges and expenses of the bankrupt estate—including the trustee’s remuneration and expenses and AFSA’s Asset Realisation Charge (ARC, currently 7 percent)—are payable on the amount required to meet all of the debts and costs. If the bankruptcy was commenced by a creditor’s application, the petitioning creditor’s costs also need to be paid.

Bankrupts must understand that the extra estate costs incurred may be significant and must be paid in full to obtain this type of annulment.

Section 73 proposal
A section 73 proposal is made under section 73 of the Bankruptcy Act. Section 73 gives bankrupts an alternative to their continued bankruptcy by allowing them to propose a formal arrangement to their creditors. This process is similar to proposing a Part X agreement to creditors (i.e. instead of bankruptcy); however, a section 73 proposal is initiated during a bankruptcy.

The process requires the creditors to accept the proposal and receive a benefit that was unavailable to them in the bankruptcy, in exchange for agreeing to annul the bankruptcy. Upon acceptance, an annulment occurs and the new agreement takes effect. The debts of the now ex-bankrupt are not released by discharge, but through the agreement terms being satisfied. Non-provable debts are covered in section 75 of the Bankruptcy Act.

Annulment by court order
Under section 153B of the Bankruptcy Act, a bankrupt can apply to the court for an order annulling (i.e. effectively overturning) the bankruptcy. The court will only consider an application if it believes that the bankruptcy should never have commenced in the first place. An application can be made against a sequestration order (i.e. a creditor’s petition) or the acceptance of a debtor’s petition by AFSA.

A bankrupt may apply for an annulment for numerous reasons not detailed here; the emphasis is on the bankrupt’s rights.

Protection of the trustee
Once a bankruptcy is annulled, a trustee gives the appropriate notices to AFSA to update the NPII.

Section 154 of the Bankruptcy Act protects a trustee’s actions while they are trustee of a bankrupt estate. Any transactions or sales entered into during this period are not reversed, or reviewed. The trustee can use assets in the annulled estate to pay any costs and remuneration that remain unpaid at the time of the annulment.

If the assets in the estate are insufficient to meet the trustee’s costs and expenses, a trustee can collect the balance from the annulled bankrupt. This means that it is possible for a trustee to bankrupt the ex-bankrupt for costs incurred before the bankruptcy was annulled. However, this is a rare scenario.

The enclosed information is of necessity a brief overview and it is not intended that readers should rely wholly on the information contained herein. No warranty express or implied is given in respect of the information provided and accordingly no responsibility is taken by Worrells or any member of the firm for any loss resulting from any error or omission contained within this fact sheet.

Last Updated: 3.11.2017