Vic Court of Appeal denies liquidators approval of proposed settlement agreement

Recently the Victorian Court of Appeal upheld a decision to deny liquidators approval of a proposed settlement in McDermott and Potts as liquidators of Lonnex Pty Ltd (in liquidation) [2019] VSCA 23. The creditors had been opposed to the settlement.


The liquidators of Lonnex (Ross McDermott and John Potts) had commenced proceedings pursuing claims which arose from a striking series of transactions. Lonnex and a related company Millennium Management Pty Ltd each operated two medical practices at different locations in Melbourne. The day after establishing a tax consolidated group with related entities, Lonnex and Millennium both sold their assets – their 4 clinics – to Lonnex & Millennium Management Holdings Pty Ltd (LMMH) for $22m and $18m respectively. These amounts were payable at LMMH’s option by way of intercompany loans.

On the same day, Lonnex and Millennium forgave those loans.

Under the transactions LMMH acquired some of their liabilities. However others, principally those owing to the Commissioners of Taxation and State Revenue, were left with Lonnex and Millennium. The owner of the shares in LMMH, Dr Geoffrey Edelsten, subsequently onsold them.  (See [4]-[6])

The liquidators of Lonnex claimed inter alia that the release of the debts given by Lonnex to LMMH was an uncommercial transaction under s 588FB of the Corporations Act 2001 (Cth), and an unreasonable director-related transaction under s 588FDA, and sought judgment in the sum of $22m. The liquidator of Millennium (Andrew Yeo) subsequently issued a corresponding proceeding.   LMMH’s defence included arguments that the forgiveness of the loans was part of a larger composite transaction under which benefits flowed to Lonnex and Millennium, such that the impugned transactions were neither uncommercial nor unreasonable. (See [8])

Lonnex’s creditors were recorded in the judgment as including the Commissioner ($7.7m), the State Revenue Office ($264K), “perhaps” Dr Edelston ($3.6m) and minor creditors including Medicare. (See [10])

The Commissioner had funded Lonnex’s liquidators to conduct the Lonnex proceedings up to mediation. Agreement had not been reached on funding beyond that. (See [11])

Following mediation, Lonnex’s liquidators made applications under s 477(2B) and the then s 511 of the Corporations Act for orders directing that they were justified in compromising the proceeding and approving their entry into terms of settlement accordingly. An associate judge refused that application. The liquidators sought leave to appeal. The Commissioner of Taxation, being the largest creditor, appeared in opposition to the liquidators’ application. (See [2]) Indeed the proposed settlement was opposed by the Commissioner, the State Revenue Office, and the trustee in bankruptcy. (See [10])

Broadly, the liquidators argued that the proposed settlement was a reasonable commercial outcome and that they had not been put in funds to contest the proceeding further. The Commissioner disputed the wisdom of accepting the settlement and wanted a different liquidator appointed to pursue Lonnex’s litigation. (See [2]) Senior Counsel for the Commissioner informed the Court of Appeal that if Millennium’s liquidator Mr Yeo were to take over as liquidator of Lonnex, the Commissioner would be prepared to enter into a funding arrangement with him, and that Mr Yeo had consented to act as liquidator of Lonnex.

On the appeal, the liquidators submitted that the associate judge’s discretion had miscarried on several grounds. There was argument on the following issues –

  1. the significance of the fact that funding of the liquidation and the liquidators’ past and future expenses and liabilities had not been secured,
  2. the significance of the creditors’ opposition to the proposed settlement,
  3. the relevance and content of the legal opinion, and
  4. whether the proposed settlement was in the interests of creditors. (See [41])

Another proposed ground of appeal was the liquidators’ contention that the associate judge erred, or his discretion miscarried, in failing to give reasons or adequate reasons, for refusing leave under s 477(2B). (See [40]) The associate judge had stated that the s 477(2B) application was refused for the same reasons as the s 511 application. (See [62])

The Provisions

After the filing of the application, s 511 of the Corporations Act was repealed and replaced by the Insolvency Law Reform Act 2016 (Cth). The liquidators submitted that the principles which formerly covered s 511 applications applied equally to the replacement provisions contained in the Insolvency Practice Schedule (Corporations), namely ss 90-15 and 90-20. The case therefore proceeded as an application under s 511.

To pause here – for any practitioners looking to bring an application now under s 90-15 – I note that on an application for directions in Walley, In the matter of Poles & Underground Pty Ltd (Admin Apptd) [2017] FCA 486 at [41], Gleeson J observed that the question of whether to exercise the power in s 90-15 was “to be answered by reference to the principles applied to the exercise of the discretions previously contained in s 479(3) and s 511 of the Act”. This has since been approved in El-Saafin v Franek (No 2) [2018] VSC 683 at [110] (application by administrators for directions), in Re Hawden Property Group Pty Ltd (in liq) [2018] NSWSC 481; (2018) 125 ACSR 355 at [8] (application for directions), in Krejci (liquidator), re Community Work Pty Ltd (in liq) [2018] FCA 425 at [46] (application for directions and for s 477(2B) approval), in GDK Projects Pty Ltd re Umberto Pty Ltd (in liq) [2018] FCA 541 at [33] (application for the appointment of special purpose liquidators), and in an unreported decision in which I appeared last year for the liquidator Re Cameron Lane Pty Ltd (in liquidation); Playaround Pty Ltd v Peter Robert Vince, Supreme Court of Victoria, 14 August 2018 (appeal from the rejection of a proof of debt).  

Returning to the present case, section 511 of the Corporations Act relevantly provided –

(1) The liquidator, or any contributory or creditor, may apply to the Court:

(a) to determine any question arising in the winding up of a company; or

(b) to exercise all or any of the powers that the Court might exercise if the company were being wound up by the Court.

(2) The Court, if satisfied that the determination of the question or the exercise of power will be just and beneficial, may accede wholly or partially to any such application on such terms and conditions as it thinks fit or may make such other order on the application as it thinks just.

Section 477(2B) of the Corporations Act provides –

Except with the approval of the Court, of the committee of inspection or of a resolution of the creditors, a liquidator of a company must not enter into an agreement on the company’s behalf (for example, but without limitation, a lease or an agreement under which a security interest arises or is created) if:

(a) without limiting paragraph (b), the term of the agreement may end; or

(b) the obligations of a party to the agreement may, according to the terms of the agreement, be discharged by performance;

more than 3 months after the agreement is entered into, even if the term may end, or the obligations may be discharged, within those 3 months.

I pause here to draw attention to the fact – sometimes overlooked – that s 477(2B) is framed as a prohibition. However, if a liquidator has entered into such an agreement without prior creditor or court approval, it can in some cases be possible to obtain retrospective approval from the court (nunc pro tunc). Such an application is often made together with an application under s 1322(4)(a) and (d). By way of example, two cases in which I appeared for the liquidators in obtaining such approval are –


The Court of Appeal reviewed the key authorities at [63]-[91]. The passages cited by their Honours  focussed upon several issues, including notably the importance of the views of the creditors. For instance at [66] their Honours cited this passage from the judgment of Lindley LJ in Re English, Scottish & Australian Chartered Bank [1893] 3 Ch 385, 409 –

If the creditors are acting on sufficient information and with time to consider what they are about, and are acting honestly, they are, I apprehend, much better judges of what is to their commercial advantage than the Court can be

At [72] the Court repeated the oft-cited observation of Giles J considering an earlier provision (s 377 of the NSW Companies Code prior to 1992 – authorisation to compromise) in Re Spedley Securities Ltd (in liq) (1992) 9 ACSR 83, 85-6 –

In any application pursuant to s 377(1) the court pays regard to the commercial judgment of the liquidator… That is not to say that it rubber stamps whatever is put forward by the liquidator but … the court is necessarily confined in attempting to second guess the liquidator in the exercise of his power, and generally will not interfere unless there can be seen to be some lack of good faith, some error in law or principle, or real and substantial grounds for doubting the prudence of the liquidator’s conduct. The same restraint must apply when the question is whether the liquidator should be authorised to enter into a particular transaction the benefits and burdens of which require assessment on a commercial basis. Of course, the compromise of claims will involve assessment on a legal basis, and a liquidator will be expected…to obtain advice and, as a prudent person would in the conduct of his own affairs, advice from practitioners appropriate to the nature and value of the claims. But in all but the simplest case, and demonstrably in the present case, commercial considerations play a significant part in whether a compromise will be for the benefit of creditors.

The Court observed that, significantly, Giles J went on to say that it is for these reasons that the attitudes of creditors are ‘important’ in these applications. (See [73])

Following their review of the authorities, their Honours then distilled the following principles at [92]

  1. The nature of the inquiry undertaken by the court when approval is sought under s 477(2B) in relation to a proposed compromise of litigation is different from the nature of inquiry the court undertakes under s 511 when a liquidator seeks directions in relation to such a compromise.
  2. On a directions application the court must be positively persuaded that the liquidator’s decision to enter into the compromise is, in all the circumstances, a proper one. This necessarily involves a broad consideration of all the relevant circumstances. A direction will exonerate the liquidator.
  3. In contrast, the discrete consideration of an application under s 477(2B) involves a more circumscribed inquiry. The court reviews the liquidator’s proposal, satisfying itself that there is no error of law or ground for suspecting bad faith or impropriety, and weighing up whether there is any good reason to intervene. An order under s 477(2B) does not constitute an endorsement of the proposed compromise. An approval will not exonerate the liquidator.
  4. Given that the nature of the inquiry undertaken in relation to the directions application is broader than that under s 477(2B), it would usually be convenient to deal with with directions application first, and often that consideration would substantially overtake any discrete consideration of the application under s 477(2B).
  5. The court always pays due regard to the commercial judgment of the liquidator, and, on both applications, the attitudes of creditors are also important.
  6. On both applications, but particularly the application for directions, it would ordinarily be expected that a liquidator would have obtained appropriate legal advice in relation to the proposed compromise, and the nature and content of that advice is a relevant consideration.
  7. While the focus of s 477(2B) is delay, the inquiry under s 477(2B) still requires consideration of the substance of the proposed compromise. If a related application for directions reveals either that the directions should, or should not, be given, discrete consideration of the application under s 477(2B) may be superfluous.

Their Honours then added this at [93]

It can be seen that the authorities present a tension in the circumstances of the applications the subject of the present case. The liquidator is ordinarily best placed to determine what course the liquidation should take, in the interests of creditors, any contributors and the proper recovery of the costs and expenses of the liquidation. the court will generally not enter into the merits of that determination, confining itself to the question whether the proposed course is a proper one for the liquidator to take. At the same time, the interests and wishes of creditors are highly influential and the creditors are, if properly informed, in the best position to evaluate what is in their own interests. As such, the views of the creditors as to the merits of the present proposal are a highly material consideration.

Principles from Newtronics – s 477(2B)

I pause here to note that the principles here distilled by the Court of Appeal are somewhat informed by the circumstances of this case, and partly focussed upon the different functions served by each of s 477(2B) and s 511. On s 477(2B) applications, the Courts often cite and apply the principles as distilled by her Honour Justice Gordon in Stewart, in the matter of Newtronics Pty Ltd [2007] FCA 1375. It may be useful to repeat them here –

  1. The Court does not simply “rubber stamp” whatever is put forward by a liquidator. (The passage by Giles J in Re Spedley Securities, reproduced above, is often quoted in full together with this principle. Note that its final sentence makes clear that the key consideration is whether the proposal is for the benefit of creditors.)
  2. A Court will not approve an agreement if its terms are unclear.
  3. The role of the Court is to grant or deny approval to the liquidator’s proposal. Its role is not to develop some alternative proposal which might seem preferable.
  4. In reviewing the liquidator’s proposal, the task of the Court is – “[not] to reconsider all of the issues which have been weighed up by the liquidator in developing the proposal, and to substitute its determination for his in…a hearing de novo [but]…simply to review the liquidator’s proposal, paying due regard to his or her commercial judgment and knowledge of all of the circumstances of the liquidator, satisfying itself that there is no error of law or ground for suspecting bad faith or impropriety, and weighing up whether there is any good reason to intervene in terms of the ‘expeditious and beneficial administration’ of the winding up.
  5. Further, in judging whether or not a liquidator should be given permission to enter into a funding agreement (whether retrospective or not), it is important to ensure, inter alia, that the entity or person providing the funding is not given a benefit disproportionate to the risk undertaken in light of the funding that is promised or a “grossly excessive profit”,
  6. Generally, the Court grants approval under s 477(2B) only where the transaction is the proper realisation of the assets of the company or otherwise assists in the winding up of the company.

(See Newtronics at [26] and the authorities there cited.)


The Court of Appeal – in the unanimous judgment of Whelan AP and McLeish and Hargrave JJA – held that the associate judge had not erred.

Their Honours found that the associate judge was correct to regard the wishes of creditors as a “very important consideration”. Indeed they noted that “he would have erred not to have done so” (see [98]). It was clear, however, that the associate judge did not consider himself bound to act in accordance with the creditors’ wishes, taking account of other matters including the funding position, the legal opinion tendered, the relevance of the Millennium proceeding and the possibility that Mr Yeo might be placed in funds to conduct the Lonnex proceeding. Their Honours noted that the fact that the source of those funds would be the principal creditor served to highlight the importance, in this case, of the attitude of creditors to the proposed compromise of the Lonnex proceeding. (See [95] & [98])

The Commissioner had also submitted that there would be adverse consequences for the Millennium proceeding if the Lonnex proceeding were to be settled, which the Court accepted had considerable force. (See [99])

The Court found the absence of funding for the Lonnex liquidators to continue the liquidation was not an “overriding factor” in this particular case. Here there were alternative options, including that the liquidators could resign so that Mr Yeo could be appointed. (See [95]-[96]) Notably, however, the Court observed that in a different case where no compromise has been achieved, it might be proper for a liquidator to discontinue litigation if funds to continue to conduct it are unavailable. (See [97])


This case serves as a warning to liquidators to take heed of the attitude of creditors to a proposed settlement of a claim, particularly majority, unrelated creditors. Certainly it is a reminder that the Courts will treat the creditors’ judgment of what is in their own commercial interests as of importance, in considering an application for approval to enter into a settlement deed and for directions.

Having said that, this was a somewhat unusual case. Each case will turn on its own facts. It will not always be the case when it comes to settling a proceeding that there is another proceeding arising out of the same transaction/s running in parallel, which may be adversely impacted by the settlement. Moreover, where liquidators are without the funds or a creditor willing to fund litigation, there will not always be an alternative convenient option waiting in the wings, of another liquidator who has consented to act with a creditor willing to fund him (and the majority creditor at that).

Big few days next week – not just the banking RC report, but the hearing of the High Court Amerind appeal

The first few days of next week are shaping up to be pretty big. As has been well covered in the press, the final report by of the Banking Royal Commission has now been handed to the Governor-General and will be publicly released on Monday afternoon 4 February 2019 at 4.10pm, coinciding with the sharemarket close. Reportedly Commissioner Kenneth Hayne’s final report stretches to more than 1000 pages.

Then on Tuesday 5 and Wednesday 6 February 2019 is the hearing of the High Court appeal in Amerind, set down for 2 days. To refresh your memories, for my review and analysis of the Victorian Court of Appeal decision in Amerind see here, and for my article considering the Full Federal Court decision in Killarnee and the landscape for liquidating corporate trustees of trading trusts in light of both Amerind and Killarnee see here.

For those who want more, the submissions that have been filed for each of the appellant (creditor Carter Hold Harvey Woodproducts Australia Pty Ltd), the first respondent (the Commonwealth of Australia, which advanced $3.8m for former employees of the company under FEGS) and the second respondent (the Receivers of Amerind Pty Ltd (Receivers & Managers appointed)(in liquidation) may be read on the High Court website.


Newsflash – Amerind High Court appeal listed for hearing

The Amerind appeal to the High Court of Australia has reportedly been listed for a 2-day hearing on 5 and 6 February 2019. Watch this space.

In the meantime, for my review and analysis of the Victorian Court of Appeal decision in Amerind see here, and for my article considering the Full Federal Court decision in Killarnee and the landscape for liquidating corporate trustees of trading trusts in light of both Amerind and Killarnee see here.

For those who want more, the submissions that have been filed for each of the appellant (creditor Carter Holt Harvey Woodproducts Australia Pty Ltd), the first respondent (the Commonwealth of Australia, which advanced $3.8m for former employees of the company under FEGS) and the second respondent (the Receivers of Amerind Pty Ltd (Receivers & Managers appointed)(in liquidation)) may be read on the High Court website.

When a payment of trust money is recovered as an unfair preference, does it become trust money once again?

Last Friday Derrington J in the Federal Court in Queensland tackled this question which remains unresolved in Australia, in  Lane (Trustee), in the matter of Lee (Bankrupt) v Commissioner of Taxation (No 3) [2018] FCA 1572. That is, when a payment is recovered as an unfair preference, and the original payment out was of trust moneys applied in payment of trust debt/s, does the recovered money become impressed with the trusts once again, or does it form part of the bankrupt’s general estate? (Or, on a liquidation, the company’s?) As a fungible, of course the funds recovered are not the same funds as those paid to discharge the debt.


Mr Lee was the sole trustee of the Warwick Lee Family Trust. Prior to his bankruptcy, Mr Lee operated the business of a Subway franchise in the suburb of Brassall in Queensland on behalf of the trust. In his capacity as trustee he employed a  number of staff and incurred a number of significant liabilities. In the course of the administration of Mr Lee’s bankrupt estate, the Bankruptcy Trustees recovered an unfair preference payment of $322,447.58 from the ATO, which had been paid by Mr Lee in discharge of tax liabilities arising from the operation of the Subway franchise. Of this sum, $171,659 had been paid using Mr Lee’s own money to pay this tax debt, and the balance of $150,778.58 had been paid from funds of the trust. The Bankruptcy Trustees had apportioned the unfair preference recovery accordingly between Mr Lee’s personal estate on the one hand and the trust on the other.

The question was whether they were right to do so. The debate centred on the recovery of payment of trust money, and whether the Bankruptcy Trustees were correct in their treatment of the $150,778.58 as becoming trust money “once again” upon its recovery.


In broad terms, the Bankruptcy Trustees submitted that the funds recovered by them were impressed with the terms of the trust such that they (in the shoes of Mr Lee) would only be entitled to use them to discharge liabilities owing to trust creditors. His Honour noted the Trustees also seemed to submit that the trust creditors would be entitled to be subrogated to the equitable lien which attached to those funds in support of the trustee’s right of exoneration (at [7]).

The Commissioner generally submitted that the monies repaid by him were not subject to the terms of the trust and was available to be used by the Bankruptcy Trustees to meet the claims of all creditors (at [7]). The Commissioner submitted that although the trust funds were paid to him by Mr Lee as trustee utilising the right of exoneration, when an equivalent amount was repaid, the money was held free of all trust obligations and could be used to discharge the debts of non-trust creditors (at [20]).


As Derrington J observed at [25] that to date there is no sufficiently authoritative statement on this topic.

His Honour’s key reasoning is at [19]. He observes that attention needs to be focused on the entitlement to recover the sum paid from trust funds pursuant to Mr Lee’s entitlement to exonerate himself in respect of debts incurred in his capacity as trustee. Mr Lee’s entitlement to use trust funds only arose by reason of his position as trustee and because the debt arose from the administration of the trust. He concludes that the right to recover the payments of trust money from a transaction which was avoided was a right which was held for the benefit of the trust. Hence that right of recovery would be trust property vested in the trustee in that capacity and not in his / her /its personal capacity. “Rights which accrue from the performance of trust obligations tend to be trust property”, he adds.

At [24] his Honour concludes: “It would appear to be axiomatic that the right to receive repayment from the Commissioner consequent upon the avoidance of the preference payment was a right which vested in Mr Lee qua trustee such that the right is property of the trust, albeit one in which Mr Lee also had a beneficial interest.” He takes the view that at the very least, the right to receive the funds would be subject to the fiduciary duty that Mr Lee is not to profit from his position as trustee (at [28]).

Derrington J’s conclusion meant that the Trustee’s of Mr Lee’s bankrupt estate were correct to apportion the unfair preference recovery between the trust and Mr Lee’s general estate, in accordance with the source of the original payments that had been avoided. That is, the impugned payments of trust monies recovered as unfair preferences were to be treated as held for the benefit of trust creditors only (see [32]).


This should provide some guidance to bankruptcy trustees where the bankrupt had been a trustee who made preferential payments prior to bankruptcy.

However the question is more likely to arise in the corporate context, and will be particularly acute where a company was trustee of more than one trust, or also acted at times in its own capacity. The difficulty here is that some of his Honour’s reasoning was particular to the bankruptcy context (see [12]-[15]), and it is unclear if it would apply in the same way in the corporate context. Once again, because the Corporations Act fails to grapple explicitly with the liquidation of trustee companies and the issues which arise where trusts are involved, we are left with the question unresolved. Directions may need to be sought.

His Honour observes at [15] that the Bankruptcy Act confers no right of recovery or cause of action on the Bankruptcy Trustee (s 122 simply operates to avoid the preferential payments). It follows from this, his Honour says, that the Bankruptcy Trustee’s claim to recover the money is derivative upon a general law right acquired from the bankrupt. His Honour goes on to conclude that this right of the bankrupt is trust property which vests in the Bankruptcy Trustee by virtue of s 58 of the Bankruptcy Act (at [24]).

However unlike the Bankruptcy Act, s 588FF of the Corporations Act does provide a right of recovery and to seek other orders. For unrelated reasons , pursuant to s 588FF the right to bring the application is that of the liquidator, but the Court’s power is inter alia to order payment to the company . It is unclear whether the Courts would take the view where the impugned payment out had been a payment of trust money, that the rights of recovery under s 588FF are themselves trust property. And whether it would follow that any unfair preference recoveries received by a liquidator which had originally been payments out of trust moneys, were themselves subject to the obligation to use them in the manner required of the original funds, being for the purposes of discharging trust debts only, rather than available to the company in liquidation’s creditors generally.

Derrington J’s view expressed more than once was that neither a trustee, nor anyone claiming through it, has an entitlement to profit from their position as trustee and recover funds that had been a payment of trust moneys for their personal use (see eg at [31]). Perhaps this will inform the approach the Courts take to this difficult question.

Current state of uncertainty in the liquidation of trustee companies and the bankruptcy of individual trustees

Given that this case decides a question which leads to a conclusion as to whether unfair preference recoveries are available to all creditors or only trust creditors, one more point should be  noted. This is a Federal Court bankruptcy decision (in Queensland). For most of Australia, on the liquidation of a trustee company, proceeds of the trustee’s right of exoneration and supporting lien are not generally available for distribution to non-trust creditors. They may only be used to pay trust creditors. This was confirmed by the Full Federal Court in March of this year in Killarnee – Jones (Liquidator) v Matrix Partners Pty Ltd; Re Killarnee Civil and Concrete Contractors Pty Ltd (in liq) [2018] FCAFC 40; (2018) 354 ALR 436 (Killarnee). See my distillation of the propositions for which Killarnee stands as authority here, and my article reviewing the judgment and considering each of those propositions in more detail here.

In Victoria, however, a five member bench of the Court of Appeal in February of this year in Amerind concluded on this issue that until a subsequent appellate decision decides otherwise, Re Enhill continues to apply in Victoria and should continue to be followed by trial judges here, and the proceeds of the trustee’s lien on a bankruptcy or liquidation are available for division amongst the company’s creditors generally, not only among trust creditors –  Commonwealth of Australia v Byrnes and Hewitt as receivers and managers of Amerind Pty Ltd (receivers and managers apptd)(in liq) [2018] VSCA 41; (2018) 354 ALR 789 (Amerind). See my article reviewing that judgment here. Derrington J’s disapproval of this position can perhaps be seen in his observation at [9] that:  “In general terms, the decision in Amerind concluded that a corporate trustee’s right of exoneration, being the entitlement to use trust funds to pay trust debts, transmogrifies on insolvency into a right to use trust funds for the [trustee company’s] non-trust debts.”

Of course Amerind dealt with other issues as well, principally whether a trustee’s right of indemnity is property of the company, and whether upon the liquidation of a trustee company the distribution of property is governed by the statutory priority regime. Special leave to appeal to the High Court in Amerind has been sought and in August 2018 was granted, although the appeal has not yet been heard.  **Update: The High Court appeal was heard on 5 February 2019. As at the date of writing this update (15 Feb 19) the HCA decision is pending.

I note too that Derrington J’s earlier decision in the bankruptcy of Mr Lee dealing with whether trust assets can be used to pay all creditors or only trust creditors, and whether the scheme of priority in s 109 of the Bankruptcy Act applies to trust assets / proceeds of the trustee’s right of indemnity and lien –  Lane v Deputy Commissioner of Taxation [2017] FCA 953; (2017) 253 FCR 46 – has been appealed by the Commissioner. However given the granting of leave to appeal to the High Court in Amerind the Lane appeal it is not presently being progressed (see [9]).


Newsflash – High Court delivers reasons for upholding the holding DOCA in Mighty River

The High Court of Australia has this morning delivered reasons for orders it made in June 2018 dismissing two appeals from the West Australia Court of Appeal.

In Mighty River International Ltd v Brian Hughes and Daniel Bredencamp as Administrators of Mesa Minerals Ltd [2018] HCA 38 the DOCA in question inter alia provided for a moratorium on creditors’ claims, required the Administrators to conduct further investigations and report to creditors concerning possible variations to the Deed within 6 months, and provided that no property of Mesa Minerals be made available for distribution to creditors.

In Mighty River’s appeal to the High Court, it essentially made two submissions –

  1. The DOCA was not valid principally because it was an agreed extension of time not ordered by the Court under s 439A(6) and was contrary to the object of Part 5.3A, and
  2. The DOCA should have been declared void under s 445G(2) for contravening ss 438A(b) and 439A(4), or s 444A(4)(b), or both.

A slim majority of the High Court disagreed. The majority (Kiefel CJ, Edelman J and Gageler J) held that –

  1. The Deed was a valid deed of company arrangement. It was formally executed, and created and conferred genuine rights and duties. It did not involve an impermissible sidestepping of s 439A(6); the effect of extending the time for investigations by the Administrators was only incidental to the purpose of the DOCA (at the hearing there was some criticism from the bench of the use of the term “holding DOCA”). The moratorium was consistent with the object of Pt 5.3A, and
  2. The Deed was not required to be declared void under s 445G(2). Section 444A(4)(b) did not require the Deed to specify some property to be available to pay creditors’ claims, and the Administrators had formed and expressed the opinions required by s 438A(b) and, at the relevant time, s 439A(4).

In dissent their Honours Nettle and Gordon JJ took the view that in substance, the Deed did no more than purport to extend the administration of the Company (at [70]).

The judgment may be read in full here.

Newsflash – Special leave granted in Amerind

Earlier this morning special leave to appeal to the High Court was granted from the Victorian Court of Appeal’s decision in Amerind.  The bench comprised their Honours Gageler, Edelman and Nettle JJ. The transcript is not yet available on Austlii. Their Honours did not need to hear from counsel for Carter Holt Harvey Wood Products Pty Ltd, the creditor who had applied for special leave to appeal.

The five-member Victorian Court of Appeal decision from which special leave to appeal was granted can be read here: Commonwealth of Australia v Byrnes and Hewitt as receivers and managers of Amerind Pty Ltd (receivers and managers apptd)(in liq) [2018] VSCA 41 (Amerind).

My review and analysis of that decision can be read here. For my article considering the Full Federal Court decision in Killarnee and the landscape for liquidating corporate trustees of trading trusts in light of both decisions see here.

Fraud and more than Barnes v Addy – VSCA on accessorial liability for breach of fiduciary duty or trust

In the wake of a fraud the missing money has sometimes vanished for good – spirited overseas perhaps or lost to the fraudster’s gambling habit. There may be a lack of other assets held by the fraudster against which any judgment could be executed. This is why claims that can be made against third parties who were not the fraudsters themselves but were sufficiently involved in what happened, can be so important. In some circumstances, even where they did not receive the stolen or misappropriated money, the third party’s involvement as an accessory is such as to make them liable, and losses can be recovered from them.

On Tuesday the Victorian Court of Appeal handed down its decision in Harstedt Pty Ltd v Tomanek [2018] VSCA 84. It is a significant judgment for their Honours’ remarks as to the different forms of accessorial liability for breach of fiduciary duty – it is not confined only to the second limb of Barnes v Addy (knowing assistance). Further, the judgment is significant for the principles it identifies as to what will constitute “assistance” for the purposes of the second limb (knowing assistance). There is also useful guidance in relation to the five Baden catetogories of knowledge relevant to knowing assistance.

The judgment was unanimous. The bench comprised their Honours Santamaria, McLeish and Niall JJA. I will briefly summarise the facts and decision in this case, before laying out the learnings to be gained from this judgment.

The facts

The appellant Harstedt Pty Ltd had invested $250,000 in one of those investment schemes which in hindsight was probably too good to be true. Investors were promised sizeable profits to be generated by the investment of capital by a humanitarian organisation. Investors deposited money into a CBA account in the name of the corporate vehicle Apollo Development Enterprises Pty Ltd, which they were told was a ‘non-depleting amount’; the funds were to be held inviolate and were not to leave the account.  They were told CBA had agreed to lend three times the amount held in the account, which presumably was to be used to generate profits via the investment platform. In the event, however, the funds (over $4m) were transferred to an account in Spain where they vanished without a trace.

Harstedt sued the company Apollo and others associated with Apollo, including the company secretary Mr Tomanek. Harstedt made various claims, including fraudulent breach of trust by Apollo and a claim against Mr Tomanek for knowing assistance under the second limb of Barnes v Addy. Harstedt was successful at trial against Apollo, but dismissed the claim against Mr Tomanek. Harstedt appealed.

On appeal the Court of Appeal held that Mr Tomanek knew of the essential facts which constituted the dishonest and fraudulent breach of trust by Apollo (see [105]-[108]). However the appeal failed, primarily on the basis that Harstedt had not established “assistance” on the part of Mr Tomanek. Their Honours held that on the evidence, and on the case as advanced (see below), Harstedt had not established anything beyond knowledge on the part of Mr Tomanek of Apollo’s dishonest and fraudulent design. That knowledge, in and of itself, did not facilitate Apollo’s breach of trust and cause the loss arising therefrom. On the evidence, it was insufficient to constitute “assistance” in the relevant sense (see [119]-[121]).

1.Fraud may give rise to different claims against third party accessories 

Note that on the facts of this case, the claim of knowing receipt (first limb of Barnes v Addy) was not considered, nor was there any question of tracing or following the money. This appeal decision only considered the case where a third party may be liable as an accessory to another’s breach of trust or fiduciary duty.

As their Honours acknowledged, the state of the law on accessorial liability in this context has been riddled with uncertainty and disunity; they set out the relevant authorities and case law in footnotes which I have not reproduced here.

Their Honours observed at [68] that there are different forms of accessorial liability for breach of fiduciary duty, which must be kept distinct. Their Honours identified two forms of liability and went on to describe two other situations in which accessorial liability for breach of fiduciary duty may arise. The two forms of accessorial liability their Honours set out were –

  1. Knowing assistance in the breach – the second limb of Barnes v Addy. This was the claim brought in this case. To be liable under this form, the breach of duty or trust must amount to a ‘dishonest and fraudulent design’ (see [68] and the elements set out at [70]). Note, however, that the dishonesty required is on the part of the fraudster, not the third party (see [97] and see also Farah Constructions Pty Ltd v Say-Dee Pty Ltd [2007] HCA 22; (2007) 230 CLR 89 at [160], [163] and [179]).
  2. Knowing inducement or immediate procurement of the breach. The High Court in Farah drew attention to a line of cases preceding Barnes v Addy in which it was accepted that a third party might be liable as an accessory to a breach of trust (or, their Honours noted, fiduciary duty) on this basis. Procuring or inducing a breach of fiduciary duty is distinct from participating in it (see [68]). The Full Federal Court in Grimaldi v Chameleon Mining NL (No 2) [2012] FCAFC 6; (2012) 200 FCR 296 observed that for this head, as with corporate alter ego cases (see next) it is not necessary to show any dishonest or fraudulent design here, or improper purpose on the part of the trustee or fiduciary (see [245] of Grimaldi; see [161] of Farah). Their Honours in Harstedt sets out the cases under this head at footnote 28 and 29, but see also Marriner v Australian Super Developments Pty Ltd [2016] VSCA 141 and the decision of Sloss J at first instance in Australian Super Developments Pty Ltd v Marriner [2014] VSC 464 from [274].

The two “other situations” their Honours discussed at [69] in which accessorial liability for another’s breach of fiduciary duty may arise were –

  1. Alter ego of the wrongdoer. Their Honours described this as where a company is the corporate creature, vehicle, or alter ego of a wrongdoing fiduciary or trustee, and the wrongdoer uses the company to secure the profits or inflict the losses of their breach (see [69], citing Grimaldi at [243]). In these cases the corporate vehicle is fully liable for the profits made from, and the losses inflicted by, the fiduciary’s wrong. I note that as the Full Federal Court observed in Grimaldi, the basis for third party liability in these cases is said to be that the company had full (imputed) knowledge of all of the facts, and either has a “transmitted fiduciary obligation” or “jointly participated” in the breach. Liability does not turn on the need to show dishonesty, although it often provides the reason for the interposition of the company. (See [243] of Grimaldi.)
  2. Trustee de son tortThis is where the third party is not a trustee but nevertheless presumes to act as a trustee and then commits a breach or profits from the position. In those circumstances the third party can be liable as a trustee de son tort (see [69], citing Mara v Browne [1896] 1 Ch 199, Nolan v Nolan [2004] VSCA 109 at [25]-[29]).

I will not launch into a doctrinal debate about these forms of liability here, although I note that pleadings in these cases need to be carefully considered and framed. However it is worth pausing to comment further on the basis of liability  for number 1 immediately above – where the third party is the corporate alter ego of the wrongdoer. Regarding that type of case, it has been noted it is ‘rather artificial’ to use Barnes v Addy to explain this liability (see [243] of Grimaldi.) Having said that, in Grimaldi, Mr Grimaldi’s company Murchison Pty Ltd was found liable for Mr Grimaldi and Mr Barnes’ diversions of money away from Chameleon Pty Ltd…under both limbs of Barnes v Addy (knowing assistance and knowing receipt). Murchison Pty Ltd was also found liable for aiding and abetting the contraventions of ss181 and 182 of the Corporations Act committed by Mr Barnes as was Mr Grimaldi. (See [312]-[321] where the trial judge’s findings are set out, and the Full Court’s agreement with those findings at [322]-[345] of Grimaldi). As an aside, I note that the defendants had claimed the diverted funds were payments properly posted to their loan accounts – see what the Full Federal Court had to say about that at [336] – the funds were not stolen but they were misappropriated.

I note too that in 2012 in Grimaldi, the Full Federal Court outlined four “quite different manifestations of [third party] participation” in another’s breach of fiduciary duty or breach of trust, rendering them liable in equity. These were framed somewhat differently to those identified here by the Victorian Court of Appeal; for those interested, see Grimaldi at [243]-[248]. My 2012 article discussing the Full Federal Court’s decision in Grimaldi may be read here, and my 2012 discussion of the issue of de facto directors and officers as dealt with in the judgment may be read here. Mr Grimaldi was unsuccessful in obtaining special leave to appeal to the High Court – see here.


As noted above, this week’s judgment in Harstedt is also significant for the principles it identifies as to what will constitute “assistance” in the breach of trust or fiduciary duty for the purposes of the second limb (knowing assistance).

Their Honours acknowledged that the authorities offer little guidance, and that plainly whether a third party has assisted relevantly is a question of fact for each case. However their Honours distilled two principles as having emerged from the authorities and commentary on this point (at [116]-[118]) –

  1. There will be assistance where, but for the action or inaction of the third party, the breach of fiduciary duty would not have occurred. Their Honours observed that a common example is the role of a bank or other financial intermediary the function of which is essential to effect a transaction that amounts to a breach of trust.
  2. There may also be assistance where the third party has facilitated a breach of fiduciary duty that would have occurred in any event. (emphasis added)

Before any bankers reading this sit up in alarm at their Honours’ comment under principle 1 immediately above, it should be noted that a finding of assistance alone will not be enough to found liability as an accessory. Indeed there are four necessary elements of liability under the second (knowing assistance) limb of Barnes v Addy. These were set out by their Honours at [70], citing Farah and Grimaldi, and are –

  1. The existence of a fiduciary duty owed by the fiduciary (trustee or otherwise),
  2. A ‘dishonest and fraudulent design’ on the part of the fiduciary,
  3. Assistance by the third party in that design, and
  4. Knowledge on the part of the third party of the circumstances constituting that design.

Turning briefly then to the last of these – knowledge.

3.The Baden categories of knowledge

Their Honours’ judgment in Harstedt also provides useful guidance in relation to the five Baden categories of knowledge relevant to ‘knowing assistance’ at [85]-[87].

The Baden categories are –

  1. Actual knowledge
  2. Wilfully shutting one’s eyes to the obvious
  3. Wilfully and recklessly failing to make such inquiries as an honest and reasonable person would make,
  4. Knowledge of circumstances which would indicate the facts to an honest and reasonable person, and
  5. Knowledge of circumstances which would put an honest and reasonable person on inquiry.

Their Honours noted that the first two speak for themselves. In Harstedt, their Honours’ findings as to Mr Tomanek’s knowledge of the three essential facts which constituted the dishonest and fraudulent breach of trust by the company Apollo fell into the first and second categories (see [105]-[108]).

As to the third category – wilfully and recklessly failing to make inquiries as an honest and reasonable person would make – their Honours observed that this ‘involves such a calculated abstention from inquiry as would disentitle the third party to rely upon lack of actual knowledge of the trustee’s or fiduciary’s wrongdoing’ (see [86]).

I pause to note that last year in Sino Iron Pty Ltd v Worldwide Wagering Pty Ltd [2017] VSC 101, Hargrave J found the third category of knowledge on the part of the director and general manager of the betting company which had unknowingly received over $2m in stolen funds, as at the date they then credited it to the fraudster’s betting account. His Honour took the view that based on what (little) they did know, the inquiries they made were manifestly inadequate. He held that they ought to have made the ‘simple inquiry’ of identifying and contacting the depositors of the stolen funds, and asking if they intended to pay the money to the sports betting company for the benefit of the customer claiming it. My article reviewing and analysing that case can be read here.

As to the fourth category – knowledge of circumstances which would indicate the facts to an honest and reasonable person- their Honours observed that this category ‘is designed to prevent a third party setting up his or her own “moral obtuseness” as the reason for not recognising an impropriety that would have been apparent to an ordinary person’ (see [86]).

The fifth category derives from the doctrine of bona fide purchaser for value without notice (see [86]).

The Court of Appeal noted that the High Court in Farah endorsed the Baden scale and indicated that knowledge falling within any of the first four categories, but not the fifth, represents the law in Australia (see [87]).

Conclusion…and a window left open – omission/acquiescence

The Victorian Court of Appeal’s judgment in Harstedt is worthwhile for practitioners to be across. Their Honours’ remarks as to the different forms of third party liability as an accessory to breaches of fiduciary duty or trust are instructive. Further, the judgment contains useful guidance as to what will constitute “assistance” for the purposes of the second limb (knowing assistance), and as to the five Baden catetogories of knowledge.

One final aspect: Their Honours noted that Harstedt advanced its case as to “assistance” as one of active involvement by Mr Tomanek. Their Honours remarked that Harstedt did not contend that Mr Tomanek’s “assistance” comprised his acquiescence with the breach, which acquiescence caused the loss. Therefore, so their Honours noted, it was unnecessary to decide whether an omission or acquiescence may amount to “assistance” under the second limb (see [119]). Their Honours observed that the authorities on this point appear to be in disharmony. They set out a list of such cases at footnote 84.

Clearly their Honours have left this matter open. It raises interesting questions as to whether a failure to stop a fraud could constitute “assistance”; whether sitting on one’s hands could be held to be enough to facilitate a fraud, sufficiently to amount to “assistance” and satisfy that element of a claim for liability in respect of the fraud against a third party. I would speculate that may depend upon the knowledge of the third party. If the third party’s level of knowledge of the fraud reaches a high enough Baden category, then a failure to take any action to stop the fraud may be more likely to be found to constitute sufficient “assistance” in the fraud. It will be interesting to see what happens in the cases to come.

Newsflash – Amerind is headed for the High Court

Papers have reportedly been filed with the High Court by creditor Carter Holt Harvey Wood Products Pty Ltd. Watch this space.

In the meantime, for my review and analysis of the Victorian Court of Appeal decision in Amerind see here, and for my article considering the recent Full Federal Court decision in Killarnee and the landscape for liquidating corporate trustees of trading trusts in light of both decisions see here.

New article on Killarnee – trading trusts, statutory priorities on the liquidation of trustee companies, lack of power to sell trust assets

I have added a new article to my website reviewing the recent, important decision of Jones (liquidator) v Matrix Partners Pty Ltd, re Killarnee Civil & Concrete Contractors Pty Ltd (in liq) [2018] FCAFC 40; 260 FCR 310 (Killarnee). The full article can be accessed here.

As noted in my alert, last week the Full Court of the Federal Court handed down its much anticipated decision in Killarnee. The issue for the Full Court broadly was how a liquidator is to deal with trust assets in the liquidation of a company which had been trustee of a trading trust.

The three member bench comprised Allsop CJ, and Siopis and Farrell JJ. Unlike in the decision last month in Amerind where the Victorian Court of Appeal spoke with a single unanimous voice, their Honours of the Full Court wrote three separate judgments, with the Chief Justice writing the lead. Overall, while there is sound reasoning and analysis and useful clarity on some points, the Full Court’s decision may be likely to create some other concerns for insolvency practitioners dealing with trustees of trading trusts.

There was unanimity on some issues but not others, and there was a sting or two in the tail. The issue now appears to be resolved that a trustee company’s right of exoneration over the trust assets is property of the trustee company. The Full Court was clear in their view in obiter that trust assets may only be applied in payment of trust debts in exercise of a trustee’s right of exoneration (not non-trust debts). Their Honours also addressed and made clear their position as to the lack of liquidators’ power to sell trust assets, and the need for court order.

On the scheme of priority issue: the majority of the Full Court ostensibly joined with Amerind and resolved some of the uncertainty of the past few years as to whether liquidators should apply the statutory scheme of priorities under the Corporations Act when liquidating companies which have conducted their business through trading trusts and exercising the trustee’s right of exoneration over trust assts to pay creditors. The majority held that the scheme of priorities applies…mostly. This was one of the stings. Whilst the priority afforded employee entitlements was endorsed, as was that for liquidators’ costs, their Honours in the majority queried whether every element of the priority scheme in s 556 should apply in every case (indeed whether some such debts would even qualify as trust debts in every case) – see the discussion below. Their Honours’ comments and the doubt created in this area suggest that court directions are likely to be advisable for a liquidator dealing with trading trust assets on the question of distribution. Resolution of this uncertainty either by the High Court or by legislation – the latter of which was strongly encouraged by Farrell J – would be welcome, although it may need to be carefully done. This also is discussed in the article.

The specific questions considered by the Full Court on the particular case before them, and their Honours’ answers to those questions, are already set out in my alert of last week and can be read here.

To get straight to it, on my analysis, the propositions to be distilled from the Full Court’s decision in Killarnee are these –

  1. The right of exoneration and the lien over trust assets in its support are property of the trustee company. The Full Court agreed with the Victorian Court of Appeal in Amerind on this.
  2. Power to sell assets lacking under s 477 as liquidator. The assets of a trust are not themselves assets in the winding up of the trustee company, though they are subject to the right of indemnity and lien. It follows that the liquidator generally lacks power under s 477 to sell the trust assets.
  3. Power to sell assets lacking where company no longer trustee. Where the company ceases to be trustee of the trust upon its liquidation under the terms of the trust, it will then generally hold the trust assets as bare trustee (and as former trustee liable for unpaid trust debts, retaining its right of indemnity against those assets). As bare trustee, with a duty and power only to hold and preserve trust assets, the company will generally lack a trustee’s power to sell the trust assets.
  4. Power to sell trust assets can be acquired by court order for judicial sale, usually with appointment as receiver of the trust assets to carry out the sale and for the distribution of the proceeds. The liquidator of a trustee company ought approach the courts for authority to sell the trust assets.
  5. Scheme of priorities applies (mostly). The majority of the Full Court held 2:1 that the statutory scheme of priorities laid down in the Corporations Act applies to the distribution of trust assets where subject to a right of exoneration. Note however that the majority judgments raise some doubt as to whether this is achieved by the legislation applying or by Equity echoing the scheme. Siopis J dissented on this, but conceded that a similar result could be produced by way of the court, in its equitable jurisdiction, giving directions to a receiver appointed over the trust assets as to the distributions to be made to trust creditors, subject to the circumstances of the particular case.
  6. However some elements of the priority scheme may not apply in every case.
    The sting: While the majority of Allsop CJ and Farrell J accepted that the priority scheme generally applies, both queried whether all elements of the scheme applies in every case. Their Honours took the view that each paragraph of s 556 must be interrogated for its meaning and endorsed some – but not all – of the priority debts listed in the scheme. Farrell J specifically questioned whether the costs of the winding up application could even be seen as a trust debt. The Court’s position on the various types of priority debt are identified and discussed in my article (here).
  7. Trust assets are not generally available for distribution to non-trust creditors. They may only be used to pay trust creditors. Trust assets may only be applied in payment of Trust debts, where this is done in exercise of the trustee’s right of exoneration (as opposed to the right of recoupment). In re Suco Gold is correct. Re Enhill is not.

The full article can be accessed here.

Newsflash – judgment in Killarnee is in

Late this afternoon the Full Court of the Federal Court of Australia delivered judgment in Jones (liquidator) v Matrix Partners Pty Ltd, re Killarnee Civil & Concrete Contractors Pty Ltd (in liq) [2018] FCAFC 40. The bench comprised Allsop CJ, Siopis and Farrell JJ. The judgment can now be read on Austlii here.

Their Honours delivered three separate judgments. There was unanimity of decision and reasoning on some of the questions answered, but not others. The Court answered the questions posed for decision as follows –

  1. The assets of the Trust are not assets in the winding up of the trustee company Killarnee, such that the liquidator did not have power under s 477 to sell the Trust assets (unanimous).
  2. Two parts –
    1. The proceeds of realisation of Trust assets are to be applied by the Liquidator in accordance with the priority regime under ss 555, 556, 560 and 561 of the Corporations Act (2:1 – Allsop CJ answered yes, Farrell J answered yes but for different reasons, Siopis answered no).
    2. The unfair preference proceeds are to be applied in accordance with the priority regime (unanimous, although with the qualification that this was common ground, which their Honours noted they accepted without undertaking any legal analysis).
  3. Two parts –
    1. The Liquidator should be directed to deal with the proceeds of realisation of Trust assets as assets in the winding up of the Company (2:1 – Allsop CJ answered yes, Farrell J answered yes in substance, Siopis J answered no).
    2. The Liquidator should be directed to deal with the unfair preference proceeds as assets in the winding up of the Company (unanimous).
  4. Neither the proceeds of realisation of Trust assets or the unfair preference proceeds should be distributed by the Liquidator to unsecured creditors of the Trust pari passu after providing for the costs of the administration (unanimous, although Siopis J’s reasons differed to those of Allsop CJ and Farrell J).

More to follow.