Summary

On 16 December 2021, judgment was handed down in Federal Court of Australia proceedings QUD 31 of 2021, which found that set off provisions under the Corporations Act 2001 (Cth) (Act) cannot be relied on to reduce an unfair preference claim under section 588FA of the Act.

The judgment will likely see practical consequences in the increased capacity of liquidators to acquire voidable transactions under the statutory priority regime.

The matter came before the Court as a special case under rule 38.01 of the Federal Court Rules 2011 (Cth) to give effect to the consideration requested by Justice Derrington, and presented the reservation for the Full Federal Court of Australia under section 25 of the Federal Court of Australia Act 1976 (Cth).

After a detailed consideration of the history of section 553C of the Act and its predecessors, the Court ultimately found that a creditor’s obligation to repay an unfair preference to a company in liquidation under section 588FF of the Act could not be reduced by way of set-off, as that obligation does not satisfy the requirement of mutuality.

In the end, the Full Court decided that the creditor of an insolvency company has no statutory eight of set-off against a liability to repay an unfair preference.

Critical takeaways are:

  • Creditors can no longer rely on section 553C to provide set-offs to voidable payments sought by liquidators.
  • The Purpose of the Act is to maintain and protect the priority regime, ensuring that all creditors are treated equally in liquidation. The Court holds that set-offs under section 553C cannot contravene this system.


Relevant Facts

The Defendant creditor received payment during the relation-back period of $190,000.

Against those voidable payments in the scope of the liquidation and the pari passu principle, the Defendant sought to set-off those payments against debits to the company in liquidation, totalling $194,727.23.

The question reserved by Justice Derrington for consideration to the Court from these facts was:

Is statutory set-off, under s 553C(1) of the Act, available to the Defendant in this proceeding against the Plaintiff’s claim as liquidator for the recovery of an unfair preference under s 588FA of the Act?


Application From The Court

Mutuality

Mutuality under section 553C of the Act requires:

  • The mutual debts, mutual credits and other mutual dealings must arise between the same persons; and
  • The ‘benefit or burden’ of the mutual debits, mutual credits and other mutual dealings must lie in the same interests; and
  • The mutual debits, mutual credits and other mutual dealings must be commensurable.

The Defendant maintained that a connection of mutuality existed in order to satisfy section 553C’s set-off requirements. The Court challenged the presumption to the mutuality between the indebtedness of a company to the creditor and the liability of the creditor pursuant to the Court order to pay the company at the suit of the liquidator.

A particular area of contention was the purpose and design to the respective sections 553C and s588FA of the Act, and their impact upon Mutuality.

The Plaintiff put forward the two sections operated in different spheres and thus were independent in their application. The Court referred to previous iterations and substitutes to the Act such as the Companies Act of 1961 and Precursory authorities such as The Australian Bankruptcy Law and Practice material to garner a sense of the interaction between the acts and their purpose as follows:

‘Moneys, which under a bankruptcy become payable to the trustee because they were payable to the debtor, come prima facie within the mutual credits section, but not if they are moneys which upon bankruptcy become payable to the trustee in his right as trustee and not by virtue of their being payable to the debtor’

The Court considered that this statement was wide enough to encompass the lack of mutuality and by extension the denial of the right to set-off any debt owed to the creditor. The prevalence of such a position in continuing editions of the report and the sentiment established in the Harmer Report, the Court then concluded; a creditor’s obligation to re-pay an unfair preference to the company in liquidation under section 588FF of the Act could not be reduced in way of set-off, as that obligation does not automatically satisfy the requirement of mutuality.

The Court refers to paragraph 287 of Hiley v People’s Prudential Assurance Co Ltd (1938) 60 CLR 468, which states that:

The answer to whether or not there was mutuality was to be gained by ascertaining the rights by reference to the natural outcome of previous transactions.

While the act of sharing mutual debts and credits and even interests, the Court claimed that liquidation and preference payment orders could not form part of the natural outcome of previous transaction and qualify for mutuality.

It was founded upon the application of case law such as Hiley and previous legislation such as the Companies Act that the obligation to disgorge preference payments was a new obligation that arose after the liquidator had obtained orders for the acquisition of voidable payments. There was no sense by the Court in which such an obligation could be due prior to the order being made and the winding up of the company. Accordingly, that obligation could not be mutual with an old debt arising out of the company’s pre-liquidated dealings with creditors.


Statutory Priority Regime

    Allowing a creditor to rely on statutory set-off effectively results in them receiving the set-off portion of an otherwise successful unfair preference claim in priority to other creditors.

    Such a conclusion offends the notion of fairness that underpins mutuality in s 553C and the statutory order of priority of certain creditor.

    This outcome goes against the ruling and sentiments raised in the Harmer report, an authoritative document in the scope of Insolvency legislation created by the Australian Law Commission in 1988. It concluded:

    An insolvency administration should be impartial, efficient, and expeditious.

    The Court outlined that such an interaction could not be the status quo due to its contravention of the guiding principles established in the Act and the Harmer Report and undermines the principles of the Statutory Priority Regime.

     

    ***Assisted by Connor Wilkinson