Keywords: proofs of debt, dividend overpayment, proofs of debt

On a recent Mayer Brown JSM application (on behalf of the Liquidators of one of the Lehman Brothers entities) to reduce and expunge proofs of debt, the Hong Kong High Court has ruled that creditors who receive an overpayment of dividends due in respect of a proof of debt which has been "improperly admitted" (rule 96, Companies Winding-Up Rules) must give credit for those overpayments before receiving further dividends in the liquidation (Re Lehman Brothers Commercial Corp Asia Ltd ("LBCCA") [2014] HKEC 849) ("Proof Application").

In the Proof Application Harris J adopted the English common law position that a creditor who has been overpaid interim dividends is not entitled to receive any further payment out of the estate until the payments to the other creditors have been levelled up to the amount received by the overpaid creditor.

Factual Background

The liquidators of LBCCA admitted two proofs of debt from a single creditor ("Admitted Proofs"). Following admission of the Admitted Proofs the liquidators paid interim dividends to the creditor calculated on the value of the proofs as admitted. As the liquidators' investigations progressed it was understood that the calculation of certain debts against LBCCA had been carried out using one method of calculation, but that another method was to be preferred. The preferred method altered the debt positions as between LBCCA and the creditor which, in turn, called for one of the Admitted Proofs to be reduced, and the other expunged in its entirety.

While the debts due from LBCCA to the creditor had reduced, the interim dividends that had been paid had been calculated at the full amount of the Admitted Proofs. This resulted in the creditor receiving a higher rate of dividend payment than was properly due. The question for the Court was whether the overpayments could be recovered from the creditor by way of set-off against future interim dividend payments. The Court held that the overpayments could be recovered in this way.

Jurisdiction to Manage Improperly Admitted Proofs

A central function of a liquidator is to determine whether a proof of debt should be admitted or rejected in a liquidation. In fulfilling this function a liquidator acts in a quasi-judicial capacity. Liquidators have a duty to distribute the available assets of the debtor to the general unsecured creditors in proportions commensurate with the liabilities of LBCCA to those creditors (Re Van Laun; Ex Chatterton [1907] 2 KB 23). Once proofs have been adjudicated a liquidator appointed in a compulsory liquidation does not have the power to unilaterally amend the value of or reject those proofs. That jurisdiction resides with the Court, as set down in CWR Rule 96 which states that "If the liquidator thinks that a proof has been improperly admitted, the court may, on the application of the liquidator, after notice to the creditor who made the proof, expunge the proof or reduce its amount" ("Rule 96").

Rule 96 permits an application for a proof to be reduced or expunged where the liquidator considers that proof to have been "improperly admitted". Whether a proof has been improperly admitted is determined on a case by case basis but the reference to a proof being "improperly admitted" has been found by the courts, in both England and Hong Kong, not to carry with it any moral opprobrium; it is simply a factual question of whether the proof ought to have been admitted or not (Re Globe Legal Services Ltd; Re Tse Lee Yuen Jewelry Ltd [1984] HKC 352).

Recovery of Overpayments

It is an integral part of the pari passu principle, which is central to the Hong Kong insolvency regime, that liquidators ensure that the property of a debtor company is properly distributed to the company's creditors and that no creditor receives more than he is entitled to. While the CWR designates how proofs may be reduced or expunged, the rules do not stipulate how overpayments of dividends to a creditor should be treated or whether the overpaid creditor is obliged to repay the excess to the estate. In contrast, the statutory position in the UK has been amended and where, in an English liquidation, a creditor's proof is reduced after dividends have been paid, that creditor is liable to repay to the office-holder the amount of the overpayments (Insolvency Rules 1986 r.11.8(3)).

Notwithstanding silence of the statutory scheme in Hong Kong on this point, the common law has held that a creditor who has received an overpayment from a liquidation is not obliged to repay those funds in the event his proof is expunged (Ex p Harper re Tait (1882) ChD 537). Ex p Harper held that a creditor whose proof was expunged was not entitled to receive further dividends but that expunging worked only prospectively, and did not have retrospective effect. Accordingly, an overpaid creditor may retain excess dividends that have previously been paid. It was stated by Jessel MR that "no injustice can be done, because any dividends which have already been paid are allowed to be retained by the creditor, and the expunging affects only the right to receive future dividends." (at 541). This position is consistent with the finality of dividends and accords with the principle that dividends once paid cannot be disturbed.

The court in ex p Harper was not required to consider whether the overpaid creditor was required to give credit for the excess dividends that had been paid because that case involved expunging a proof so no question of future interim dividends or how those dividends should be treated arose. However, the position was considered in Re Searle & Hoare [1924] 2 Ch 325. In this case the court held that, a creditor who has received more than he is entitled to from an insolvent estate is not permitted to receive future dividends without first giving credit for the overpayments that have been made. As stated by Lawrence J, "The mere fact that the trustee cannot recover either payments made to a person whose proof is subsequently expunged or overpayments made to a creditor whose proof is subsequently reduced does not, in my opinion, prevent the well known principle in equity that a beneficiary who has been overpaid is not entitled to receive any further payment out of the trust fund until the payments to the other beneficiaries are levelled up to the amount received by the overpaid beneficiary" (at 328). Accordingly, the common law provided that creditors who received overpaid dividends were obliged to give credit in respect of that overpayment when participating in future dividends. This, it is suggested, accords with the pari passu principle.

The Decision

As remarked by Harris J, there are no Hong Kong authorities addressing the issue as to how overpaid interim dividends should be dealt with. In the absence of a statutory indication as to how the position should be remedied, the Court adopted the common law position and held that a creditor was required to give credit for the amount of the overpaid dividends by an effective set-off being applied against future dividend payments payable to that creditor.

Accordingly, in paying future interim dividends to the creditor, the liquidators of LBCCA could deduct from the dividend due an amount representing the value of the overpaid dividends.

Comment

In following the common law position in Hong Kong the Proof Application provides useful guidance to liquidators and creditors alike who may find themselves in the position of having paid or received (as the case may be) an excess level of interim dividends. However, it remains the case in Hong Kong that, absent a statutory liability to repay excess dividends, a creditor who has received a final dividend in excess of what is properly due to him because of an overstated proof of debt is entitled to retain the benefit of the overpaid dividend where there are no further dividend payments against which deductions might be made.

Originally published 5th June 2014.

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