Look before you leap - Commencing unfair preference proceedings prior to completing investigations

In the decision of In the matter of Pacific Steelfixing Pty Ltd,¹ the New South Wales Supreme Court considered how the availability of other potential recoveries in a liquidation can impact a liquidator’s ability to establish that a creditor received more from an unfair preference payment then they would have received in a winding up scenario.

The case involved an unfair preference claim by the liquidator (Liquidator) of Pacific Steelfixing Pty Ltd (the Company) against the Deputy Commissioner of Taxation (Commissioner) in circumstances where the Liquidator potentially had another available claim which, if successful, would have seen all of the Company’s creditors paid out in full.

Background

The Company was registered on 25 August 2017 and had operated a labour hire business in the construction industry.  Its sole client was a company named MJCR Group Pty Ltd (MJCR).  The Company was wound up in insolvency on 12 December 2018 on the petition of an advisory firm in respect of unpaid consulting fees.

In the period between his appointment and November 2019, the Liquidator identified the following matters:

• the Company had no secured creditors, and only 5 unsecured creditors who had submitted proofs for claims totalling $2.7m.  The largest unsecured creditor was the Commissioner, who had lodged a proof for approximately $2.2m which made up just over 81% of the unsecured claims;
• the Company had not maintained adequate financial records, such that the Liquidator found that the presumption of insolvency pursuant to section 588E(4) of the Corporations Act 2001 (Cth) (the Act) applied from the registration of the Company on 25 August 2017;
• the Company had made 19 tax payments totalling $740,000 to the Commissioner in the period between 30 July 2018 and 7 December 2018; and
• the Company had issued invoices to MJCR for a total amount of approximately $11.75m between September 2017 and November 2018.  The Company had also apparently entered into a deed of settlement with MJCR (Deed of Settlement) pursuant to which MJCR was obliged to pay the Company $95,000 but where neither the Company or its accountants had a copy of the Deed of Settlement and where it was unclear what had been released by the Company in exchange for the $95,000.

It also appears that by November 2019, the Liquidator:

• had identified that the Company had in fact been controlled by a person named Mr Gallagher who had persuaded the sole shareholder and director of the Company to “put his name on” the Company, and who had actually managed and run the Company;
• had identified that the director of MJCR was related to Mr Gallagher, and that Mr Gallagher might also have influence on the management of MJCR;
• had issued an email to the director of MJCR requesting a copy of the Deed of Settlement but had not received a response; and
• had interviewed Mr Gallagher and had issued Mr Gallagher a notice under section 530B(4) of the Act requesting copies of any books and records of the Company held by Mr Gallagher, but had not received any comment or response in relation to the Deed of Settlement and were advised that Mr Gallagher did not have possession or control of any books and records of the Company.

The Liquidator then commenced proceedings against the Commissioner to recover the tax payments as unfair preferences, not having obtained a copy of the Deed of Settlement.

The Liquidator issued subpoenas to MJCR and Mr Gallagher just before the final hearing of the application, pursuant to which MJCR and Mr Gallagher produced copies of the Deed of Settlement in April 2021.

As it turned out, the Deed of Settlement had been executed on the same date that the Company was wound up, and compromised claims by the Company against MJCR for over $4.6m in return for the payment of $95,000 by MJCR.

The Liquidator’s position at trial was that he had made a commercial decision to pursue the claim against the Commissioner before taking further steps in relation to investigating the Deed of Settlement, but that having obtained the Deed of Settlement he agreed that the terms of it would “ordinarily” have caused him to conduct further investigations into whether the deed could be challenged, and that there was nothing stopping him from seeking to challenge the deed or to recover the $4.6m from MJCR.

One of the issues which then arose in the proceedings was whether the Liquidator had established (or could establish) as part of the unfair preference claim against the Commissioner the requirement under section 588FA(1)(b) of the Act that the Commissioner received more in respect of the debts paid by the tax payments than would have been received if the Commissioner had proved for those debts in the winding up.

The relevant law

Section 588FA(1) of the Act, provides that a transaction is an unfair preference given by a company to a creditor if:

• the company and the creditor are parties to the transaction (section 588FA(1)(a)) and
• the transaction results in the creditor receiving from the company, in respect of an unsecured debt that the company owes to the creditor, more than the creditor would receive from the company in respect of the debt if the transaction were set aside and the creditor were to prove in the winding up of the company (section 588FA(1)(b)).

In determining whether the elements of section 588FA(1)(b) of the Act are satisfied, the Court must determine whether the creditor received more than it would receive if the payment or payments were set aside and the creditor were to prove in the winding up of the company.

The plaintiff liquidator bears the onus of proof in relation to the above matters. 

Decision

In considering this issue, Williams J noted that it was not in dispute that the tax payments had been made or that the Liquidator bore the onus of proving the elements in section 588FA(1)(a) and (b).

However, the question was whether the Commissioner received more from those tax payments than it would receive if the payments were set aside and the Commissioner were to prove as an unsecured creditor in the winding up of the Company.

The Liquidator argued that this question had to be assessed by reference to the “status quo of the winding up”, namely that the creditors did not stand to receive a dividend and the Company was bound by the Deed of Settlement, as to do otherwise would effectively prevent liquidators from ever being able to pursue unfair preference claims where there were or might be other claims which could vest in the liquidator.

However, Williams J rejected this argument and held that the Liquidator had failed to prove the required elements under section 588FA(1)(b) and that the claim against the Commissioner should be dismissed.

Williams J made the following specific findings:

• The Liquidator had failed to discharge the onus of proving the elements of section 588FA(1)(b) because the Liquidator’s investigations into potential recoveries in respect of the Deed of Settlement were incomplete.  The Liquidator had failed to explain why further investigations via public examinations or by issuing subpoenas at an earlier time had not taken place.
• There was a cause of action relating to the Deed of Settlement available to the Liquidator in the amount of $4,270,020.14 which, if successful, would see a surplus in the winding up and therefore all creditors paid in full.
• The consequence of the uncertainty in the evidence as to the extent of the assets available for distribution to the creditors in the winding up meant that there was no appropriate basis on which to reach a reasonable decision about whether the Commissioner received more from the tax payments than would be received if those payments were set aside and the Commissioner proved for the underlying debts in the winding up.
• The Liquidator had failed to establish that the tax payments were voidable transactions and the proceedings must be dismissed.
• The Liquidator’s argument that this approach would bar other liquidators from bringing unfair preference claims was rejected because this case turned on its own very specific and unusual facts, where the uncertainty arose from the Liquidator failing to take steps to complete investigations that he accepted he would “ordinarily” have taken.

Lavan comment

While Williams J was careful to limit his findings to the facts, this case highlights that to succeed in an unfair preference claim, liquidators should ensure all available claims have been properly investigated and the results taken into account when assessing the satisfaction of section 588FA(1)(b) of the Act.   Liquidators must be mindful of their burden to prove that a particular preference payment resulted in a creditor receiving more than the creditor would receive from the company in respect of the debt if the transaction were set aside and the creditor were to prove for the debt in the winding up of the Company.  If investigations relating to other available claims are incomplete, that burden might not be satisfied.

This is in a noteworthy decision for both insolvency practitioners (whom may prosecute an unfair preference claim) and creditors (whom may need to defend such a claim).