Australia: Part 1: Trusts and insolvency—is it different in bankruptcy?

A personal taste to the ongoing trust complexities.

As many readers are aware, there has been no shortage of cases in recent years dealing with a scenario where a corporate trustee of a trust goes into liquidation. Judges have drawn on various authorities to provide guidance on key principles surrounding the liquidator exercising the company's right of indemnity and supporting lien, and the interactions with the Corporations Act 2001 (most notably, whether the priority provisions apply). Despite the number of cases, uncertainty remains and currently, no firm overriding authority on a final position.

At Worrells, while we are avidly watching the judgements that are continually handed down in the corporate sphere, we are involved in a trust matter that adds another layer of complexity to the 'trusts and insolvency' issue. We are the bankruptcy trustees of an estate where the bankrupt is trustee of a trust. We recently sought directions from the Federal Court of Australia on various matters surrounding the bankruptcy's administration and how to deal with the trust assets in Lane (Trustee), in the matter of Lee (Bankrupt) v Deputy Commissioner of Taxation [2017] FCA 953.

The matter involves a bankrupt who was sole trustee of discretionary family trust that owned and operated a Subway franchise business and employed several staff. Prior to our appointment, the trust sold the Subway business resulting in substantial sale proceeds. It must be noted that the bankrupt remained as trustee of the trust after our appointment as bankruptcy trustees. This is because there was no ipso-facto clause removing the bankrupt as trustee due to the bankruptcy.

From the outset, it was apparent that we were dealing with both Subway business assets, being the sale proceeds (trust assets), and the bankrupt's personal assets (non-trust assets). We also found the Subway business had outstanding debts (trust creditors) and separately, the bankrupt's personal debts (e.g. personal credit cards, loans, and tax debt) (non-trust creditors) that exceeded the value of trust and non-trust assets. Compounding the complexity, was an unfair preference claim, comprising of payments partially made using the bankrupt's own funds and trust funds, but the debt only related to a trust debt. The lack of precedence involving a bankrupt trustee of a trust and administrations dealing with both trust and non-trust assets and creditors led us to seek directions from the Federal Court of Australia.

A 111-page judgment was handed down by Justice Derrington, referring to the large number of directions that we sought, and the uncertain state of the law in relation to the matters. His Honour provided much-needed guidance on some key principles around a bankrupt trustee's right of indemnity out of trust assets, which is summarised as follows:

  1. A trustee has the right of indemnity from trust assets in respect of trust debts.
  2. The right of indemnity from trust assets falls into two distinct parts, being the right of recoupment (right to reimbursement from trust assets for trust debts discharged by the trustees using personal funds) and right of exoneration (right to discharge trust debts from trust assets).
  3. The trustee has an equitable lien supporting the right of indemnity. Upon the trustee's insolvency, trust creditors are subrogated to the trustee's right of exoneration and supporting lien.
  4. The right of recoupment and right of exoneration is the insolvent trustee's personal property, which passes to the bankruptcy trustee as 'property of the bankrupt divisible amongst creditors'.
  5. The right of recoupment results in the trust funds being transferred beneficially to the bankrupt estate, available to meet claims of both trust and non-trust creditors, under the priority provisions of the Bankruptcy Act 1966.
  6. The right of exoneration is much more limited. It does not result funds being beneficial received by the bankrupt estate, merely a right to use trust funds to discharge trust debts to the exclusion of non-trust creditors.
  7. As all trust creditors have equal rights of subrogation to the right of exoneration and supporting lien; payments out of this right are to occur pari passu ).

Some interesting observations can be made from His Honour's guidance above.

Firstly, how the right of indemnity exercised by a bankruptcy trustee compares to that of a liquidator. The bankrupt estate runs alongside the bankrupt's ongoing personal duties and obligations as trustee of the trust. This differs from a liquidated company that remained as trustee of the trust that would be fully controlled by the liquidator as company officer. In this administration, as the trustee is bankrupt, the only recourse is for trust creditors to claim in the bankrupt estate. His Honour explains that the right of indemnity that arises is 'property of the bankrupt' and that it is this right of indemnity that vests in the bankruptcy trustees.

Secondly, His Honour's interpretation of sections 58 and 116 and their interaction with section 108 and 109 of the Bankruptcy Act. His Honour states that while a bankruptcy trustee can take possession of all 'property of the bankrupt', only 'proceeds' from this realisation process are payable under the priority provisions. His Honour expresses that although the right of exoneration is 'property of the bankrupt', this right is not capable of being realised to produce 'proceeds' under section 108 and 109. What is interesting is that the Corporations Act's priority provisions do not refer to 'proceeds', however, His Honour does address that the right of exoneration itself is incapable of being realised. Furthermore, His Honour noted that a right of exoneration provides a very narrow right for the sole purpose of discharging trust debts.

A growing list of authorities confirms that the priorities outlined in sections 108 and 109 of the Bankruptcy Act and section 556 of the Corporations Act for distribution of trust assets do not apply, and this is the first case we know of that involves a bankrupt trustee and the Bankruptcy Act. Its effect has a significant impact on employees of trading trusts, particularly the Commonwealth where it has paid employee entitlements under the Fair Entitlements Guarantee (FEG) regime and seeks to recover these advances as a priority. This point of contention is currently being considered in two matters, being Re Amerind Pty Ltd (Receivers and Managers Appointed) (In Liq) VSC 127 of 2017 and Killarnee Civil and Concrete Contractors Pty Ltd (In Liq) WAD 181 of 2016, where the Commonwealth is involved and undoubtedly, seeking that the priority provisions should apply.

The proceeding in our matter is ongoing with considerations on how to allocate the unfair preference monies, and how to distribute the trust assets in view of the orders that the statutory priorities do not apply.

In our next article on this administration we will cover what orders were made in respect of the distribution of the trust and non-trust assets, the 'hotch-pot' principle, and the judgment details regarding our remuneration and costs and therefore how those will be paid from the asset pools.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Emails

From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

*** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.