Australia: Trustee’s right of indemnity unaffected by bankruptcy

BACKGROUND

In Condon (Trustee), in the matter of Rayhill (Bankrupt) v Truthful Endeavour Pty Ltd [2015] FCA 7, Condon, as trustee of the bankrupt estate of Colleen Ann Rayhill (known as Colleen Lewis), sought a declaration that various payments made in respect of a property (the Property) rendered Lewis a creditor of the Kenthurst Investment Trust (KI Trust).

Appinville Pty Ltd (Appinville) purchased the Property in its capacity as trustee of the KI Trust. Lewis entered into an agreement with Appinville whereby she agreed to pay any interest or fees incurred by Appinville to service any loans in respect of the Property.

Interest payments on a loan taken out by Appinville were made by a company Lewis controlled.

In 2005, Lewis became trustee of the KI Trust. Thereafter, the interest payments on the Appinville loan were made by another one of the companies controlled by Lewis.

The Property was subsequently sold and Condon contended that as the interest payments were made by Lewis, the whole of the sale proceeds should be transferred to him as Lewis' trustee in bankruptcy.

DECISION

The Court found that the proceeds of sale were subject to an equitable lien in favour of Condon to secure Lewis' right to indemnity from the KI Trust.

The Court accepted that the money in the bank accounts of the companies controlled by Lewis was beneficially owned by her. The accounts functioned as a convenient vehicle through which Lewis could deal with her own money and the companies did not incur or discharge any liability for the KI Trust.

The Court restated the principle that a trustee is personally liable for debts and liabilities incurred in its capacity as trustee, but has a right of indemnity out of the trust assets. The payments made by the companies after Lewis became trustee of the KI Trust were at Lewis' direction in order to discharge her liability to Appinville, being a liability she incurred for the purposes of the KI Trust. Accordingly, Lewis had a right to be indemnified out of the trust assets.

Further, the costs and expenses Lewis incurred while not acting as trustee meant that she was a creditor of the KI Trust. By subrogation to the rights of the trustee, Lewis also had the benefit of a charge over the trust assets in respect of those costs and expenses.

Under s 58 of the Bankruptcy Act 1966 (Cth), the property of Lewis vested in Condon (her trustee in bankruptcy) when she became bankrupt. That property included the right of indemnity and the right of subrogation to the trustee's right of indemnity against the trust assets. Those rights take priority over those of the beneficiaries of the KI Trust.

COMMENT

This decision confirms that where payments are made by an undischarged bankrupt (in their capacity as trustee of a trust), prior to their bankruptcy and in order to satisfy personal liabilities, the bankrupt will be entitled to be indemnified out of the trust assets and that right will be secured by an equitable lien over those assets. This right of indemnity and the lien will then vest in the trustee in bankruptcy upon the making of a sequestration order.

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