The case law and the contrasting lines of thought.
In our November ‘Worrells – On The Pulse’, we discussed ‘Trading trusts and insolvency law’, which looked at the framework of how trusts work and what happens when the trustee of a trading trust becomes insolvent. This article looks at the case law on liquidators’ rights when appointed to corporate trustees.
Unfortunately, the different courts have been divergent in their decisions over the years and no clear position has yet been set.
The major points in these cases are:
Apostolou v VA Corporation Aust Pty Ltd (2010) 77 ACSR 84
It was decided that:
- The right of indemnity passed to the liquidator;
- The liquidator had the right to realise trust assets to satisfy that indemnity;
- That power came from section 477(2)(c) of the Corporations Act 2001; and
- Funds could be distributed in accordance with section 556 of the Corporations Act.
These points were followed in:
- Re Neeeat Holdings (In Liquidation) and Another (2013) FCA 61
- Kitay, in the matter of South West Kitchens (WA) Pty Ltd [2014] FCA 670,
- Barnett, in the matter of Fulkoto Pty Ltd (In Liquidation) (2013) FCA 595 also stating that, in Queensland, the power to sell can be derived from the Trust Act 1973 (Qld).
However, other cases follow a different theory stating that the liquidators of bare trusts maintained the right of indemnity, but had no power to sell trust assets:
- Lemery Holdings Pty Ltd v Reliance Financial Services Pty Ltd (2008) NSWSC 1344;
- Catepillar Financial Australia Limited v Ovens Nominees Pty Ltd (2011) FCA 677
- Fletcher, in the matter of Starrit Pty Ltd (In Liquidation) (2012) FCA 803.
Stansfield DIY Wealth Pty Ltd (In Liq) (2014) NSWSC 1484 stated that:
- Trustees of bare trusts lost the powers of sale that came from the trust deed;
- Trustees had no power under section 477(2)(c) of the Corporations Act to sell trust assets; and
- An application would be required to appoint a receiver and manager under the right of indemnity.
Independent Contractor Services (Aust) Pty Ltd (In Liquidation) (No 2) went even further to state that an application would be required for liquidator’s fee approval and for a right to distribute trust funds. It also decided that the priority provisions under section 566 of the Corporations Act did not apply to these distributions.
Freelance Global Limited (In Liquidation) v Bensted & Ors (2016) VSC 181 followed mostly on the same basis, but that the Corporations Act's priority provisions did apply when distributing trust funds.
In the latest case being Bell Hire Services Pty Ltd (in liq) [2016] FCA 1583 the court agreed that section 556 did not apply to distributions of monies derived from trust assets.
The issues at hand
These cases leave significant uncertainties, and possibly a number of very expensive answers if those answers have to be sought from the court through a number of different applications.
The liquidator’s rights to sell assets
Some of these decisions state:
- liquidators of bare trusts cannot deal with its assets
- their powers are limited to only protect and preserve those assets
- the only real company asset is the right of indemnity (which subject to the availability of trust assets should have a value)
- liquidators have no power to sell trust assets without applying to the court to be appointed as receiver to the trust assets.
Given the costs involved, liquidators of a corporate trustee with limited assets may find that applying to court to be able to deal with the assets may exhaust the assets’ value itself.
In Queensland, the position may be a little clearer. Section 32 of the Trust Act 1973 (Qld) gives the right to sell to ‘every trustee’, which arguably includes trustees of bare trusts. In cases with very limited assets, Queensland practitioners may feel capable of dealing with trust assets without the need to make an application to court. However, a court order may satisfy any concerns by exercising caution.
This problem will not occur if a trustee is not removed either by way of an Ipso Facto clause or by the appointor or beneficiaries (i.e. the company remains as the trustee). It will also not appear if any new trustee appointed pays the amount owed under the right of indemnity.
But what can a liquidator do with funds realised from trust assets?
Priority of payments
There are two lines of thought on what a liquidator can do with money realised from trust assets, and they have some significantly different outcomes.
One line of thought is that the priorities under section 556 of the Corporations Act do not apply to money generated from trust assets, as they are trust assets and are governed by the relevant Trust Acts. Those Trust Acts generally say that all unsecured creditors should be paid the same under the same priority. If these priority provisions do not apply, the law that give employees (and the government’s Fair Entitlements Guarantee (FEG)) priority over other unsecured creditors will not apply. That is, employee entitlements will rank alongside other unsecured creditors. Secured creditors may also be affected. The Corporations Act gives employee entitlements a priority over secured creditors for recoveries from circulating assets. Without the Corporations Act provisions, secured creditors would be paid from all circulating assets under their securities. Employee entitlements (including FEG) would only be paid if there was surplus after the secured creditors were paid in full.
The other line of thought says that the money received by the liquidator of a corporate trustee are company funds because the company received and holds them under its right of indemnity. In other words, they were trust assets paid to company under the right to indemnity hence becoming a company asset.
As company funds originating from that company’s asset, the Corporations Act and its employee entitlements and all other priority provisions should apply.
Remuneration
Without discussing quantum of fees, liquidators can be paid from the trust assets for work done for the trust. Usually the company will only act as trustee of one trust, but that is not always the case.
The question is who can approve the liquidator’s fees?
Again, there are two lines of thought about whether the Corporations Act applies.
The first line of thought is if the money held is a trust asset and not a company asset, the Corporations Act remuneration provisions do not apply and therefore liquidators must apply to court to have their fees approved. If an earlier court application was made to be appointed as receiver of the trust that order should provide for the payment of fees, but a separate application may be necessary to approve quantum. This also does not answer whether creditor approval is also required under the Corporations Act as the liquidation appointment is made under that Act.
The second line of thought is if the money available is a company asset (from the right of indemnity), the usual Corporations Act provisions should apply with fee approval being sought from creditors and paid under the usual priority.
So, in the most conservative case, liquidators may be faced with having to make applications for:
- approval to sell trust assets
- setting priority of payments to creditors
- approval of their remuneration, or at least the quantum of that remuneration.
What if the amount of funds available is less than the cost of these applications?
These applications cannot practically be heard at the same time as you need approval to deal with the trust assets before starting to incur the fees to deal with them. Once those assets have been realised a liquidator would then make the application for their fee approval and only then, will they be in a position to determine if there are surplus funds to distribute to creditors, which will then require a further court application. In saying that, typically the liquidators fee approval and creditor distribution applications can be made in the one application.
Directors’ exposure
Directors of corporate trustees will have all of the usual exposures to personal liability as other directors; however, they also may face a further exposure.
Section 197(1)(b) of the Corporations Act provides that a director is personally liable for a company debt if the corporate trustee is not entitled to be ‘fully indemnified’ from trust assets solely because of one or more of the following:
- A breach of trust by the corporation.
- The corporation acting outside the scope of its powers as trustee.
- A term of the trust denying or limiting the corporation's right to be indemnified against the liability.
For directors to be protected, they must ensure that the company acts within the limits of its rights under the trust deed and within the provisions of the Trust Act.
Conclusion
A business run within a trust has as much chance of failing as any other. The insolvency of a trustee can be made more complicated by the inclusion of the relevant Trust Act into the process and in light of recent decisions.
At this time, applications are still being heard by the courts. Until the High Court or legislation makes a definite position clear, uncertainly around these issues will continue, along with the high costs of continuing applications.