Insolvency, Litigation and Dispute Resolution

Avoiding a conflict of interest: what can directors do?

24 November, 2015

KEY TAKE-HOMES FOR INSOLVENCY PRACTITIONERS

When you are appointed to an insolvent corporate trustee, the prudent course until the law is clarified is to apply to the Court to be appointed as receiver of the assets of the trust, in order to be able to sell and otherwise deal with the assets of the trust (and to ensure that you obtain an order that your costs, expenses and remuneration incurred acting as receivers and managers can be paid from the assets of the trust);
The priorities in respect of employee entitlements contained in section 556(1) of the Corporations Act (Act) do not apply to the distributions of trust property such that the entitlements of employees are to be treated pari passu with other creditors;
Liquidators who have expended time and effort in getting in and realising trust assets, are entitled to the benefit of a lien such that they can deduct their remuneration and expenses from the Trust Fund before paying the general body of creditors. The same principle applies to costs and expenses incurred by Liquidators who have been appointed as receivers in order to allow them to properly deal with the property of the trust where the trust deed operates to remove the corporate trustee in the event of insolvency.

SUMMARY

The recent decision of Markovic J in Robert Kite and Mark Hutchins in their capacity as liquidators of Mooney’s Contractors Pty Ltd (in liq) & Anor v Lance Mooney & Anor [2017] FCA 653 in the Federal Court of Australia provides practitioners with further clarification of the requirements when insolvency practitioners are appointed to companies which operate as corporate trustees. However, while the decision follows the reasoning of Brereton J in Re Independent Contractor Services (Aust) Pty Limited (in li) (No 2) [2016] NSWSC 106 in confirming that liquidators of trustee companies may not deal with trust assets in their capacity as liquidator, and the distribution of trust assets is not subject to the priorities in section 556 the Corporations Act 2001 (Cth), the decision maintains the Federal Court’s practical approach to the consideration of insolvency practitioners’ remuneration.

The decision of Markovic J arose from an application by the liquidators of Mooney’s Contractors Pty Ltd (in liq) (the Company) for judicial advice in respect of the following practical considerations in the winding up of the Company, in circumstances where the Company had been the trustee of the Mooney Family Trust (the Trust):

Whether section 556 of the Corporations Act (2001) relating to priority of creditors in a winding up applies to creditors of a corporate trustee in its capacity as trustee of a trust (specifically in relation to employee entitlements);
Whether the liquidators of a corporate trustee would be justified in calling for proofs of debt and having recourse to trust assets to satisfy those claims; and
Whether the liquidator’s remuneration costs and expenses can be paid from trust assets.

The liquidators had previously sought interlocutory orders appointing them as receivers and managers of the assets of the trust. These orders were made by Yates J in the Federal Court of Australia on 29 July 2016 in a brief but circumspect judgment which is dealt with in further detail below.

BACKGROUND

On 13 June 2017 the Federal Court of Australia handed down judgment in an application for judicial advice in Robert Kite and Mark Hutchings in their capacity as liquidators of Mooney’s Contractors Pty Ltd (in liq) & Anor v Lance Mooney & Anor [2017] FCA 653. McCabes were the solicitors on the Record for the plaintiffs in this matter.

Prior to 27 April 2015 Mooney’s Contractors Pty Ltd (the Company) had been the trustee of the Mooney Family Trust (the Trust), a trading trust which, amongst other things, supplied equipment and workers for infrastructure projects in Queensland. The Company operated solely as trustee of the Trust.

On 27 April 2015 the plaintiffs were appointed as voluntary administrators of the Company. On appointment, the Company ceased to be trustee of the Trust by operation of the trust deed, however no replacement trustee was appointed. Consequently, the Company held the assets of the Trust as bare trustee.

On 7 June 2015 the Company entered into a deed of company arrangement, with the plaintiffs as deed administrators. The Company defaulted and the deed was terminated.

On 7 July 2016 the Company was placed into liquidation and the plaintiffs were appointed as joint and several liquidators.

APPLICATION TO BE APPOINTED AS RECEIVERS AND MANAGERS OF THE TRUST ASSETS

As bare trustee, the Company had an equitable lien over the assets of the Trust. However, the issues that arose were:

What is the extent of the Company’s lien over the assets of the Trust; and
What can the liquidators of the Company do to enforce the lien over the assets of the Trust.

When acting as administrators and deed administrators of the Company, the plaintiffs had proceeded on the basis of the principles outlined in Kitay, in the matter of South West Kitchens (WA) Pty Ltd [2014] FCA 670 which provided that a liquidator’s power of sale under section 477(2) of the Corporations Act 2001 (Cth) extended to the property of a trust of which the company had been trustee but had been disqualified from by reason of the liquidation.

The plaintiffs subsequently became aware of the decision of Brereton J in Stansfield DIY Wealth Pty Limited [2014] NSWSC 1484 in which his Honour found that a trustee’s equitable lien over trust assets does not give rise to a beneficial interest in the trust assets, such that the assets of the trust cannot be considered to be “property of the company” for the purposes of section 477(2) which provides the power of sale.

Consequently the plaintiffs sought an order that they be appointed as receivers and managers of the assets of the Trust to avoid any doubt over their ability to deal with the assets of the Trust. In making the order, rather than opining as to the correctness (or otherwise) of Brereton J’s decision in Re Stansfield, Yates J merely observed that:

“Because of that doubt, the plaintiffs have adopted the course that has been taken in a number of other cases, namely to seek appointment as receivers and managers of the trust property so that, in that capacity, they can exercise powers over the property: see, for example, Bastion v Gideon Investment Pty Ltd (in liq) (2000) 35 ACSR 466; [2000] NSWSC 939; Stansfield; Hundy (Liquidator); In the Matter of Enviro Friendly Products Pty Ltd (In Liq) [2013] FCA 852; SMP Consolidated Pty Limited (in liquidation) v Posmot Pty Limited [2014] FCA 1382; QBE Insurance (Australia) Limited v WA Metal Recycling Pty Ltd, in the matter of WA Metal Recycling Pty Ltd (in Liq) [2016] FCA 238.”

THE APPLICATION FOR JUDICIAL ADVICE

In a further application, the plaintiffs (as liquidators of the Company and receivers of the assets of the Trust) sought judicial advice on the following matters:

Whether the Company is bare trustee of all of the Trust assets with the benefit of a lien. This was answered in the affirmative.
Whether employee entitlements are to be dealt with in accordance with section 556(1) of the Corporations Act 2001 (Cth). Markovic J found that section 556(1) does not apply to the distribution of the assets of the trust. This is dealt with in further detail below.
Whether the liquidators would be justified in calling for proofs of debt and having recourse to trust assets to satisfy those claims. This question was answered in the affirmative.
Whether the liquidator’s remuneration, costs and expenses could be paid from trust assets. Markovic J found that the liquidator could have recourse to trust assets for this remuneration. This is dealt with in further detail below.

WHETHER THE PRIORITIES IN SECTION 556(1) OF THE CORPORATIONS ACT APPLY IN THE WINDING-UP OF A CORPORATE TRUSTEE

Until the decision of Brereton J in the NSW Supreme Court in Re Independent Contractor Services [2016] NSWSC 106 on 23 February 2016, the longstanding precedent in relation to how trust assets should be distributed on a winding up of a corporate trustee was that of Re Suco Gold (1983) 7 ACLR 873, which provided that the proceeds of the trust should be distributed in accordance with the priorities provided for in the Corporations legislation (section 556 of the Corporations Act 2001 (Cth)).

However, in Independent Contractor Services, consistent with his existing fixation on the idea that a trustee’s equitable lien over trust assets does not give rise to a beneficial interest in the trust assets, such that the assets of the trust cannot be considered to be “property of the company” in liquidation (see: Stansfield DIY Wealth Pty Limited [2014] NSWSC 1484), Brereton J held that since section 556 of the Corporations Act only applies to “property of the Company”, the liquidators of the corporate trustee should distribute any proceeds from the realisation of trust assets amongst creditors in accordance with trust principles, rather than the priorities in section 556(1) of the Corporations Act.

Given that section 556(1) prioritises such items as the remuneration of insolvency practitioners and employee entitlements, the practical impact if this section does not apply in a winding up scenario can be significant.

In Mooney’s the plaintiff’s asked the Federal Court to follow Re Suco Gold and submitted that the trustee’s lien provides the insolvent Company as bare trustee with a beneficial interest in the property of the Trust to make the relevant property the property of the Company.

After much detailed consideration of the relevant authorities (including Re Suco Gold , Re Enhill, Independent Contractors Services and the recent decision of Robson J in the Supreme Court of Victoria in Re Amerind Pty Ltd (receivers and managers appointed) (in liq) [2017] VSC 127), ultimately the Court held that the trustees indemnity and lien were not property of the company and accordingly the statutory priority regime in 556(1) would not apply.

This decision affirms and expands upon the growing list of authorities which have also held that the employees of corporate trustees will rank equally with other creditors and will not be afforded the benefit of the statutory priority contained in s556(1). These decisions (in particular Re Amerind) are also relevant in the context of matters where the Commonwealth has paid out employee entitlements under the Fair Entitlements Guarantee Scheme and seeks to recover payments made under that scheme from the company in liquidation as a priority creditor.

It is yet to be seen whether the Commonwealth will appeal the decision in Re Amerind but it appears that the status quo against the application of 556(1) employee priorities to trust property has been set and any potential appeal on the matter will not be assisted by the decision in in this case.

RENUMERATION

On the issue of whether the liquidators would be justified in paying remuneration out of trust assets, the plaintiffs relied on the decision of Riordan J in In the matter of Freelance Global Limited; Freelance Global Limited (in liquidation) v Barbara-Ann Bensted [2016] VSC 181 at [68] in which his Honour held that the discretion to allow expenses and remuneration from trust assets would usually be exercised if the work had been done in the interests of the beneficiaries and there is no practical alternative to allowing the remuneration.

The Court found that the “salvage principle” as first propounded in the matter of Re Universal Distributing Company Limited (in liq) 1933 48 CLR 171 and later considered and applied in Freelance Global v Bensted [2016] VSC 181 should apply such that that practitioners who undertake work for the purpose of realising, caring for or preserving property of a trust to create a fund or pool of assets should be entitled to a lien or charge against the fund or pool of assets for the expense and remuneration incurred in such work.

The Court in Mooney’s agreed with the position put by his Honour Justice Riordan in Freelance that the application of the Salvage principle entitled a “liquidator acting reasonably …[for that purpose] to be indemnified out of trust assets for its costs and expenses.”

In Mooney’s the Court noted that there was a contest between Messrs Kite and Hutchins variously in their capacities as administrators, liquidators and receivers, and the general body of creditors, in that in applying the salvage principle the general body of creditors would rank pari passu for the balance after the practitioner had deducted their remuneration and expenses from the fund.

In deciding to apply the salvage principle to the matter the Court noted that:

it was clear that Messrs Kite and Hutchins, in their capacity as administrators and liquidators had exclusively expended their time and effort getting in and realising trust assets;
As the facts stood it was clear that the Company operated solely as trustee for the Trust and held all of its assets in that capacity and the steps it undertook were required so that the practitioners could meet their statutory duties and protect trust assets.
Such obligations were, as the Court put it, “Coextensive”
It was clear that there would be insufficient funds to meet the claims of creditors and Messrs Kite and Hutchins’ expenses, such that there would be no return to beneficiaries.

In all of the circumstances the Court held that Kite and Hutchins were entitled to a lien over the trust assets and in relying on that lien were entitled to deduct their remuneration and expenses ( in their capacities as administrators, deed administrators, liquidators and receivers) from the Trust before paying the general body of creditors .

CONCLUSION

In some ways the decision in Mooney’s is consistent with the trend which has seen the Federal Court adopt a practical attitude to the commercial realities for insolvency practitioners appointed to insolvent trusts.

However the Court’s decision not to apply s556(1) priorities to employee entitlements shows a reluctance to give precedence to the Commonwealth legislative insolvency regime and is more in line with the approach taken by the Victorian and NSW Supreme Courts which have applied a strict conceptual precedence to the general law of trusts.

Going forward, the recent line of authorities is likely to have significant and overall negative impact on both the employees of insolvent corporate trustees and the Commonwealth which often steps in to cover entitlements under the Fair Entitlements Guarantee Scheme.

With an appeal by the Commonwealth likely in Re Amerind it will be interesting to see whether the Victorian Court of Appeal departs from the recent caselaw or whether legislative reform will be required in the future to import statutory priorities in insolvency into the general law when dealing with insolvent trusts.

In light of the decision of the Court of Appeal inSanderson as liquidator of Sakr Nominees Pty Ltd (in liquidation) v Sakr [2017] NSWCA 38 (previously discussed here ) it would seem that the discrepancies in the approaches taken by the Federal Court of Australai and The Supreme Court of New South Wales are not as distinct.

However, it will be interesting to see whether the Federal Court requires the same exceptional level of detail that was required by the Supreme Court of NSW in Sakr Nominees Pty Limited [2017] NSWSC 668 (29 May 2017) and earlier in Re Banksia Securities Ltd (in liq) (recs and mgrs. apptd) [2017] NSWSC 540 when the practitioners involved in this matter approach the Court for approval of their fees.

MCCABES’ EXPERTISE

Andrew Lacey heads McCabes’ Insolvency Group which offers expertise and experience in corporate and personal insolvency. We deliver commercially relevant advice to businesses of all sizes, insolvency practitioners and individuals.

This article is not legal advice. It is intended to provide commentary and general information only. Access to this article does not entitle you to rely on it as legal advice. You should obtain formal legal advice specific to your own situation. Please contact us if you require advice on matters covered by this article.

published by

Andrew Lacey

Managing Principal

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