A theoretical dilemma: can a bankruptcy trustee release a voidable transaction claim against a company he controls? - Insolvency/Bankruptcy

This week's TGIF considers the decision of the Federal Court in In the matter of Thousand Angeles Island Pty Ltd (in liq) (No 2) [2021] FCA 283, where the Court held that only a 'theoretical conflict' existed for a liquidator entering into a deed where he was also bankruptcy trustee of the company's sole shareholder.

Key takeaways

It is appropriate for a liquidator or bankruptcy trustee to seek judicial advice and directions from the Court to clarify a possible conflict.
If making a request for judicial guidance, the Court should be provided with the full details of a transaction so that it can form a view as to the appropriateness of the transaction.
In considering issues of conflict, the Court is less likely to be concerned with conflicts that will never rise above being theoretical.

Background

Jin Heung Yang was the sole director and shareholder of Australian Institute of Higher Education Pty Ltd (AIHE). Thousand Angeles Island Pty Ltd (the Company) was incorporated in May 2016 with its sole director and shareholder being Richard Quesada Cruz who was a personal friend of Yang. The Company was set up as a regime for Yang to shelter his assets from creditors, prior to Yang's bankruptcy. As part of that regime, Yang transferred all of his 500,000 AIHE shares to the Company for $0.72 (Share Transfer 1).

In October 2016, the Company transferred the AIHE shares to G S Invest Pty Ltd as trustee for GS Investasi Trust (GS Invest) for nil consideration (Share Transfer 2).

On 22 March 2018, David Ian Mansfield was appointed trustee of Yang's bankrupt estate.

In July 2018, Mansfield (as trustee) entered into a deed of settlement and release with Cruz and others which resulted in Cruz assigning his right, title and interest in the Company's shares to Mansfield as trustee.

As controller of the Company's sole shareholder, Mansfield resolved that the Company be wound up pursuant to section 249B of the Corporations Act 2001 (Cth) and the Federal Court appointed Mansfield as one of the joint and several liquidators of the Company.

At the time of appointment, the Company did not trade, had no other assets, liabilities or creditors and the liquidators' sole task (other than statutory reporting requirements) was to consider the potential voidable transaction and recovery of the AIHE shares (i.e. Share Transfer 2).

In April 2019, GS Invest agreed with the Company to pay an amount (to be determined by an independent valuer) to retain the AIHE shares, in consideration for being released from any voidable transaction claim by the Company's liquidators.

This agreement was the subject of a Deed of Settlement and Release (Deed), executed in February 2021, between Mansfield as trustee of Yang's estate, the Company and G S Invest.

It was considered necessary for each of them to be parties in order to create final certainty for GS Invest that the retention of shares by it would not be subsequently challenged by Mansfield as trustee.

As part of the transaction it was proposed that Mansfield as trustee would also release a claim to avoid Share Transfer 1 for no direct consideration, but with the effect that the funds flowing to the Company would solely benefit the creditors of the bankrupt estate.

The key issues

Mansfield sought judicial advice and directions under section 30(1) of the Bankruptcy Act 1966 (Cth) and section 90-15(1) of the Insolvency Practice Schedule (Bankruptcy) and Insolvency Practice Schedule (Corporations) as to whether he was justified in entering into, and capable of performing his obligations, under the Deed.

Mansfield also sought guidance under section 477(2A) of the Corporations Act as to whether he was permitted to compromise a debt to the Company in relation to Share Transfer 2 (i.e. from transferring the AIHE shares from the Company to G S Invest for nil consideration).

Decision

The Court considered whether a possible or merely a theoretical conflict would arise in circumstances where Mansfield as trustee was forgoing a claim against the Company. If such a claim were brought, the Company's liquidators (of which Mansfield was one) might be required to adjudicate or defend that claim. It would not be possible for Mansfield to do both and act in both capacities.

In considering the potential conflict however, the Court gave weight to the fact that the only identified asset of the Company was a potential receipt of the settlement sum under the Deed and that the Company had no other creditors.

The Court observed that inevitably the settlement sum would flow to the bankrupt estate, either as the sole creditor of the Company or as the sole shareholder. Accordingly, any conflict was theoretical only and should not preclude the Deed from being executed.

In considering section 477(2A), the Court commented that the power was usually available to afford protection to a liquidator in relation to a proposed future action, rather than ratifying action that has already been taken. In the circumstances, the Court noted that the Deed had already been entered into but that approval under section 477(2A) was appropriate as there were no other practical commercial alternatives available.

Comment

It is necessary to identify potential conflicts early and, if they cannot be resolved, bring them to the attention of the Court, together with fulsome details of the circumstances in which they have arisen or could arise. The Court can then consider them and make appropriate orders or otherwise provide guidance.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.