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Liquidators’ recovery actions and the statutory set-off

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Liquidators’ recovery actions and the statutory set-off

Summary

1. An increasing line of authority suggests that a set-off under s. 553C of the Corporations Act 2001 (Cth) (“Act”) may be relied upon to resist a liquidator’s recovery action, such as an unfair preference claim or insolvent trading claim.

2. This is so despite heated criticism from liquidators and experts locally and abroad.

3. In April 2018, the Federal Court in Stone v Melrose Cranes & Rigging Pty Ltd, in the matter of Cardinal Project Services Pty Ltd (in liq) (CPS)(No 2) [2018] FCA 530 found
that the s. 553C set-off was available to defend an unfair preference claim.

4. A creditor may be able to offset pre-liquidation debt against preferential payments if it can show it did not have notice of the company’s insolvency.

The decision in Stone

In Stone, the Liquidators of CPS sought orders that payments made to Melrose Cranes in the sum of $308,544.58 constituted unfair preferences under s. 588FA of the Act.

Melrose Cranes was unsuccessful in raising the ‘good faith’, the doctrine of ultimate effect and the ‘running account’ defences.

Melrose Cranes also relied upon s. 553C to set-off the amount of $80,774.23 being the amount in which CPS was indebted to it as at the date of the appointment of the administrators.

Section 553C(1) of the Act provides for a set-off where there have been mutual credits, mutual debts or other mutual dealings between an insolvent company that is being wound up and a person who wants to have a debt or claim admitted against the company. The defence is not available where the party seeking the benefit, at the time of dealing with the company, had notice of the company’s insolvency.

The Liquidators did not make any detailed submissions as to the applicability of the set-off but invited the Court not to follow the line of cases supporting the proposition that a set-off may be available to defend a preference claim, on the basis that the cases are “plainly wrong”.

The Court highlighted some powerful contrary arguments as to why those decisions should not be followed. In particular, a Liquidator’s claim against a person or company under s. 588FA and a debt due by the company to that person or company would appear to involve different dealings, transactions or parties and thus lack mutuality.

Nonetheless the Court, in its judgment on 19 April 2018, followed the controversial decision in Re Parker (which involved the application of a s. 553C set-off to an insolvent trading claim) and other authorities, including Smith v Bone [2015] FCA 319.

The Court held the set-off defence in s. 553C can be utilised in voidable transaction claims, including unfair preference claims.

Note the creditor was ultimately unsuccessful under s. 553C because, at the time it gave credit in respect of the outstanding indebtedness, it had notice of the company’s insolvency within the meaning of s. 553C(2) of the Act.

Whether the creditor had notice of the company’s insolvency at the time of giving the credit to the company will depend on the nature of the transaction and the facts.

A person will have ‘notice of the fact’ that a company is insolvent if the person has actual notice of the facts that disclose that the company lacks the ability to pay its debts when they fall due, within the meaning of s. 95 of the Act. A ‘grounds for suspecting’ insolvency will not suffice.

Key take away points

1. Recent decisions allowing the set-off defence are of note to external administrators as this could either significantly reduce the quantum of a recovery action such as an unfair preference claim or insolvent trading claim, or nullify it entirely.

2. The use of the set-off defence has drawn plenty of criticism from the legal and insolvency community mainly on the basis that the necessary element of mutuality (which is an essential requirement of s. 553C) between the creditor’s debt and the preference claim for the benefit of the company’s creditors, is absent.

3. Whilst MMRB agrees with these criticisms, it is something to be aware of. As the decisions are either those of single judges in the Federal Court, or that or a lower court, this area should be determined definitively by an Appellate Court. We would welcome some certainty on the position from a superior court. Watch this space.

If you have any questions regarding the above, please contact Paul Marsh or Annabel Clarke.

Disclaimer: This article is general commentary on a topical issue and does not constitute legal advice. If you are concerned about any topics covered in this article, we recommend that you seek legal advice.

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