Practitioners will be pleased to know that the NSW Supreme Court has provided clarity on the order of priority for employee debts and secured creditor claims.

The matter, In the matter of Spitfire Corporation Limited (in liquidation) and Aspirio Pty Ltd (in liquidation), involved the liquidators of two insolvent companies (Spitfire Corporation Ltd and Aspirio Pty Ltd) seeking directions under s 90-15 of the Insolvency Practice Schedule (Corporations).

The direction sought concerned the correctness of the liquidators’ view that they were justified to treat the research and development tax refunds received by the insolvent companies as being subject to a circulating security interest and therefore, capable of being used to discharge debts (in accordance with s 561of the Corporations Act 2001 (Cth) (‘CA’)).

Importantly, as the insolvent companies owed debts to employees, this direction would have the effect of placing employee claims in priority over those of secured creditors (namely, Resilient Investment Group Pty Ltd, a party to these proceedings).

The Research and Development Refunds

Before considering the decision in this case, a brief background is necessary.

Because of its business, Spitfire qualified for a research and development tax offset from the ATO. While under external administration, Spitfire received two refunds for 2019 and 2020.

As to the assets and claims in liquidation, there was $1,451,463.54 available from the liquidation of Spitfire. This amount reflected the research and development refunds (‘R&D Refunds’) after deducting approved remuneration. Total creditor claims amounted to $4,142,639.23 and $1,088,873.23 was owed to Resilient, a secured creditor.

Are the R&D Refunds an asset available for distribution under s 561 of the Corporations Act?

A central question for the Court was whether the R&D Refunds were asset available for distribution under s 561 of the CA.

Relevantly, s 561 provides that where a company’s property is insufficient to discharge the debts owed to employees, property which is subject to a circulating security interest must be used to pay employee debts before paying secured creditors.

Put simply, s 561 ‘elevates’ the claim of an employee above secured creditors and allows employees to be paid out from company property subject to a circulating security interest. A ‘circulating security interest’ is a ‘PPSA security interest’ with a ‘circulating asset within the meaning of the Personal Property Securities Act 2009’ attached. A ‘PPSA security interest’’ is defined based on the meaning in the PPSA. A circulating asset is defined in s 340 of the PPSA.

After considering the authorities, the Court concluded that the R&D refunds were ‘property’ and ‘personal property’ for the purposes of s 340(1) of the PPSA. Importantly, the court noted that simply because the refunds required tax returns to be lodged before they could be converted into money did not displace their status as property.

Furthermore, the Court was satisfied that the R&D refunds constituted ‘circulating assets’ under s 340(1)(a) of the PPSA and therefore s 561 of the CA was engaged. Employee debts must be paid in priority (and using these refunds) over secured creditors (including Resilient).

Key Takeaways:

Although a very technical case, this case is useful for two primary reasons.

The first and most obvious benefit, is its clarification on how the court characterises research and development refunds and its status as ‘property’.

The second, is that this case reinforces the value of liquidator’s seeking directions under the s 90-15 of the Insolvency Practice Schedule (Corporations). Although directions require the incurring of legal costs, this case demonstrates the value for liquidators in verifying their proposed conduct in administration with the court and therefore guard against accusations of ‘unfair preferences’.

 

***Assisted by Kayla Cook***