Conditional loan not preferential.
An insolvency practitioner’s toolkit contains some durable and powerful devices that allow creditors to get a fair and equitable distribution in an insolvency appointment. One of the most commonly used tools is ‘preference payments’.
A recent Federal Court case considered this tool—but delivered an unfavourable result for the bankruptcy trustee.
Firstly, what is a preference?
Regardless of whether the insolvency appointment is a corporate or a personal matter, preferences are payments or transfers of assets generally made in the six months prior to the appointment of a bankruptcy trustee or liquidation that give a creditor an advantage over other creditors.
In the Rambaldi (Trustee) v Commissioner of Taxation, in the matter of Alex (Bankrupt) [2017] FCA 567 a trust was implied that had the effect of certain loan moneys being excluded from the bankrupt estate’s divisible assets; and hence the payment made from those loan monies being excluded as a preference.
As a general rule, for a payment to be recovered as a preference it must have been made from bankrupt’s property and not from another source.
Background
The Deputy Commissioner of Taxation filed a creditors’ petition against the bankrupt. Around two months later, a loan of $131,00 was made to the bankrupt and his associated entity City Nominees Pty Ltd ATF The City No. 1 Trust (City Nominees).
The loan agreement said:
- Alex was the sole director and shareholder of the trustee of the trust.
- Alex had a tax debt.
- The funds were allocated for the payment of that tax debt of about $85,000, plus its charges and penalties of $41,000, and for the solicitor fees of $5,000 (total of $131,000).
Further to the loan being made, the Australian Taxation Office (ATO) received $118,071.62 to satisfy the tax debt that Alex owed.
The appeal made against the creditors’ petition was dismissed in the Federal Court of Australia, and a sequestration order bankrupted Alex.
The bankruptcy trustees appointed later sought to recover the payment to the ATO as a preference payment.
The bankruptcy trustees argued that under section 122 of the Bankruptcy Act 1966 the loan moneys were the bankrupt’s property and the payment was preferential.
The ATO counter-argued that the loan money was held on a “Quistclose trust” based on case law precedence and not divisible property on the bankrupt estate—hence it was not a preference payment—as it was not the bankrupt’s property.
Decision
The Court found:
- The loan money was expressly intended for paying the ATO and the solicitor.
- The nature of this transaction was identical to the case law precedence of Quistclose trusts.
- The loan money was held on trust and therefore not property of sole director and shareholder (Alex).
- The bankruptcy could not recover this as a preference from the ATO as it was not property of the bankrupt.
Had the loan not been conditional on only being used to pay Alex’s tax debt—it would have likely not been held on trust and the trustee would have been successful in their preference action.
Potentially this is something for creditors to consider when obtaining payment if their customers are suffering from insolvency issues.