Deputy Commissioner of Taxation v Wily

LEGISLATIVE CONTEXT 5 The relevant provisions of the Act in respect of these applications are: "189A Report by controlling trustee (1) The controlling trustee must prepare a report: (a) summarising and commenting on the information about the debtor's affairs that is available to the controlling trustee; and (b) if the debtor has given the controlling trustee a proposal for dealing with the debtor's affairs under this Part - stating whether the controlling trustee believes that creditors' interest would be better served by accepting the proposal or by the bankruptcy of the debtor. … 222 Power of the Court to declare deed or composition void (1) Where there is a doubt, on a specific ground, whether a deed of assignment or a deed of arrangement was entered into in accordance with this Part or complies with the requirements of this Part, or whether a composition has been accepted by a special resolution of a meeting of creditors under section 204, the Inspector-General, the trustee, a creditor or the debtor may apply to the Court for an order under subsection (2). (2) Upon the hearing of an application made under subsection (1), the Court may, subject to this section, make an order: (a) declaring that the deed or composition is void, or that it is not void, on the ground specified in the application; or (b) declaring that a provision of the deed is void, or is not void, on the ground specified in the application. … (4) Where the Court, on the application of the Inspector-General, the trustee or a creditor, is satisfied that the debtor: … (b) has omitted a material particular from the statement of the debtor's affairs given under subsection 188(2) or included an incorrect and material particular in that statement; the Court may make an order declaring the deed or composition to be void or declaring any provision of the deed or composition to be void. … 239 Court may set aside composition (1) A creditor may, within 21 days from the date on which the special resolution accepting a composition under this Part was passed, apply to the Court for an order setting aside the composition and may also apply for the making of a sequestration order against the estate of the debtor. (2) If the Court, on such an application, considers that the terms of the composition are unreasonable or are not calculated to benefit the creditors generally or that for any other reason the composition ought to be set aside, it may make an order setting it aside and, if it thinks fit, may forthwith make the sequestration order sought. … 242 Court may terminate composition (1) The Court may, upon application by the trustee, a creditor or the debtor, or, if the debtor has died, the person administering the estate of the debtor, if it si satisfied: (a) that the debtor, or, if the debtor has died, the debtor or the person administering the estate of the debtor, has failed to carry out or comply with a term of the composition; (b) that the composition cannot be proceeded with without injustice or undue delay to the creditors, the debtor, or, if the debtor has died, the estate of the debtor; or (c) that for any other reason the composition ought to be terminated; make an order terminating the composition."

BACKGROUND 6 On 13 July 1994 Mr Mare was assessed for income tax for the years of income ended 30 June 1989, 30 June 1990 and 30 June 1991. He objected to the amended assessments and the objections were disallowed by the applicant. The decision on the objection was referred to the Administrative Appeals Tribunal ("the AAT") for merits review. 7 On 10 August 1994 Ms Steadman was assessed to income tax for the years of income ended 30 June 1989, 30 June 1990 and 30 June 1991. Ms Steadman objected to the amended assessments and the objections were disallowed by the applicant. The decision on the objection was also referred to the AAT for merits review. 8 The hearings in the AAT commenced on 1 April 1997. On 18 November 1997 after a substantial amount of evidence had been called the Debtors filed a notice in writing under s 42A(1A) of the Administrative Appeals Act 1975 (Cth) discontinuing the proceedings. These acts effectively confirmed the assessment. As described by the controlling trustee during these court proceedings - they became "set in gold". 9 However, on 17 November 1997 the Debtors had signed authorities pursuant to s 188 of the Act appointing the first respondent as a controlling trustee and thereafter, in accordance with the legislation, each Debtor filed a statement of affairs with the first respondent. 10 A substantial part of the proceedings before the AAT were conducted, on behalf of the applicant in these proceedings in order to demonstrate that Mr Mare and Ms Steadman had created a "sham" company structure, built around an entity called South Island Investments NV ("South Island") incorporated in the Netherlands Antilles. The applicant maintains that this entity and a number of related entities are the "creatures" of Mr Mare and Ms Steadman, created in part to allow them to avoid tax on income. 11 The principal issue at the AAT concerned the bona fides of an initial alleged loan agreement between Stadaco Limited and South Island (DCT 5 (A4)) and a subsequent Novation Agreement (DCT 5 (A11)) pursuant to which the debtor Mr Mare allegedly assumed responsibility for repayment of a debt payable by Stadaco to South Island. In the present proceedings South Island asserts a claim as a creditor of both debtors, firstly, pursuant to the Novation Agreement and, secondly, pursuant to the following documents:- (i) a handwritten promissory note from Mr Mare containing a handwritten guarantee of Ms Steadman; (ii) a handwritten acknowledgment by Ms Steadman relating to all debts due by Mr Mare to South Island; and (iii) a mortgage dated 12 November 1991 (in which Ms Steadman is named as mortgagor and South Island as mortgagee). 12 During the AAT hearing, Cees Vandenberg ("Mr Vandenberg"), the then principal of South Island, (as owner of two bearer shares), in response to a question about the amount of the debt owed by Mr Mare stated that the amount owing was $914,056.00 and a ledger entry was produced to that effect. The proof of debt of South Island provided in the composition, however, annexed a calculation of interest at the rate of 1.75% per month (21% per annum) and said the total owing by Mr Mare to South Island was $3,475,476.02. Mr Mare was not advised of the calculation on the above basis until 22 December 1997. At the AAT hearing both Mr Mare and Mr Vandenberg had denied the interest on the loan was intended to be 21% despite provisions in the written agreement to that effect. 13 Also at the AAT hearing Ms Steadman gave evidence that the property known as 2B Lancaster Crescent Collaroy was not encumbered. The proof of debt of South Island annexed a calculation of interest at the rate of 1.75% per month (21% per annum) the total owing by Ms Steadman being $3,475,476.02. Ms Steadman was not advised of the calculation on the above basis until 22 December 1997. 14 The transcript of proceedings at the AAT was tendered, as relevant, in these proceedings. PROCEEDINGS BEFORE THE COURT 15 Again the status of South Island as a creditor of the two debtors was pressed by the applicant as the central issue. The applicant had presented a substantial amount of material relevant to that issue to the first respondent during the period of investigation before the first respondent produced his two reports presented and discussed, as required by the Act, at the meeting of creditors on 22 December 1997. At that meeting South Island was permitted by the first respondent to vote as a creditor to both debtors. The motion to accept the composition was carried. The applicant voted against the motion. 16 The applicant argues that the first respondent did not comply with the essential reporting requirements of s 189A(1)(a) of the Act, namely to summarise and comment on all available information about the debtor's trade dealings, property and affairs. The compositions in both instances were, it was submitted, passed on the basis of reports to creditors as to the Debtors' financial affairs which were at best misleading. Also it was submitted that the first respondent went further than misleading the creditors and acted so as to render assistance to the Debtors in their aim to secure approval for the composition. He was criticised for failing to resort to his powers under the Act to enable him to undertake a more comprehensive investigation of the Debtors' affairs. His investigation was described as perfunctory and cursory ignoring lines of investigation and failing to take into account material which was provided to him by the applicant, which was material relevant to the recommendation he was bound to make under s 189A(1)(b) of the Act. 17 The final criticism was that the first respondent failed to state, in either report, the opinion he was required to form by s 189A. The language of the report and the first respondent's expressed view under cross examination in these proceedings were relied on to support this submission. The relevant opinion was stated in both reports in the following terms - "I would recommend to creditors that bankruptcy would enable proper investigation. However if the creditors are not prepared to provide funding, the offer made under Part X is a viable alternative". 18 The applicant says that it is essential that the information contained in the controlling trustee's report should be comprehensive and accurate because creditors are entitled to all available information about the Debtors' conduct, trade dealings, property and affairs before they make their decision. The fact that creditors have, in fact, information about these affairs does not excuse the controlling trustee from this obligation. 19 The affairs of both these debtors were complex and it was argued to be in the public interest and the interests of unsecured creditors that a greater opportunity to inquire into the Debtors' affairs and a more comprehensive explanation of transactions entered into by the Debtors was warranted and could only be achieved by bankruptcy. 20 The applicant referred, in particular, to the following deficiencies in the report. - it failed to report that after an employee's attendance at the Collaroy property on 19 November 1997 he had reported to the first respondent a possible breach of the Act. - it failed to report on relevant correspondence between him and Mr Mare and in particular that Mr Mare's responses to written inquiries were unsatisfactory or inadequate. - it did not deal with the applicant's representations concerning the absence of genuineness about the South Island debt which was relevant to South Island's status as a creditor. - it included a section headed "Evidence Indicating ATO Assessment is Wrong" even though the controlling trustee knew the tax appeal (in the AAT) had been abandoned. - it did not deal with the AAT proceedings - and apparently had not read the transcript. - it failed to analyse or consider the basis upon which South Island mortgage has been deprioratised in favour of the ANZ Bank even though he agreed under cross examination that South Island surrendering its preferential position to the Bank was "unusual". - it did not attempt to reconcile Mr Mare's letter of 3 December 1997 referring to salary remuneration of $65,000 from RPB with the statement of affairs referring to gross receipt of $75,000 from Level M's salary. - it made no attempt to reconcile a file note of 9 December 1997 referring to Level M being a trustee company which never traded, never held assets, never paid taxes and never had money owing, with its status as a creditor. - although the first respondent received an ANZ statement of position which disclosed the debtor's financial position as at 16 October 1996 making no mention of indebtedness to South Island, no effort was made in this report to draw attention to this fact being material to the question of whether there was sufficient doubt associated with the South Island loan to require the matter to be dealt with in bankruptcy rather than by way of composition. 21 Counsel on behalf of the first respondent in countering these criticisms drew the Court's attention to the provisions of s 190 of the Act (dealing with the powers and duties of trustees) to emphasise its broad discretions and the reliance placed on the judgment of the controlling trustee to do everything "necessary" in respect of his duties. He also emphasised the time constraints imposed on trustees and the "commercial" environment in which they work, seeking in particular to rely on the submission that, while there was a duty to be impartial in all his dealings, "it must never be forgotten that the trustee earns a living as a result of the passing of the composition". 22 He agreed that the controlling trustee had regarded the allegations of sham transactions being made by the applicant as "problematic" but he took a "pragmatic approach" particularly when there was, at that stage, no offer of funding to allow the controlling trustee to pursue investigations of the transactions. 23 Funding, was offered by the applicant during this hearing and counsel for the first respondent conceded that this was something that would be relevant to the exercise of the Court's discretion to set aside the compositions. 24 In spite of the severe criticisms made of the report by the applicant and the alleged partisanship of the controlling trustee towards the Debtors the controlling trustee had in fact concluded in his reports that bankruptcy was the preferred path if funding of the subsequent enquiries was available. (The Debtors, not surprisingly, subsequently complained to him about that conclusion.) WAS SOUTH ISLAND A "SHAM" CREDITOR? 25 As previously stated a great deal of the evidence in these proceedings was directed towards that issue. It had been the central issue in the abandoned AAT proceedings. There are many features of the loan and novation agreements and evidence given about them which belie commercial or arms-length arrangements, for example -

• inconsistent evidence about interest rates. - inconsistent and vague evidence about the terms of the agreements and monies owing. - the absence of any attempt to call in the loans after substantial arrears in repayments have occurred. - willingness to forego priority in a secured mortgage over property to the ANZ Bank. - the failure to refer to the encumbrance in statements of affairs to the ANZ Bank. 26 At the hearing, a Mr Kourtland, a Dutch lawyer, was called to give evidence. He was described as a "professional" witness by counsel for the Debtors - an expert on the laws of the Netherlands Antilles. A client of his, a Mrs Caldera, was now, he said, the owner of the two bearer shares in South Island, having been given them "in personal circumstances" by Mr Vandenberg, (the principal of this company at the time he had given evidence at the AAT). Since then, although no direct evidence of this was forthcoming, it appears, Mr Vandenberg had died. Mr Kourtland was subsequently given power of attorney by Mrs Caldera to attend to the affairs of South Island. However he subsequently made only cursory inquiries about South Island's affairs while visiting Australia principally, it seems, for the purpose of arranging yachting facilities for the Netherlands for the Olympic Games, an activity in which he was receiving some assistance from Mr Mare, himself a yachtsman. 27 Mr Kourtland's evidence was characterised by vagueness, and in some crucial respects, inconsistencies. He explained his lack of action as "not wishing to upset Mr Mare" (an alleged employee of his principal). He said under oath that South Island was proving for dividend in the composition until shown by the applicant a letter signed by himself which attested the opposite. He had little detailed knowledge of the documents which created the debt owed to South Island, nor of the business affairs of its subsidiary companies. These appeared to have more financial and business relevance to Mr Mare than to Mrs Caldera or her representative Mr Kourtland. 28 Counsel for Mare and Steadman explained his inconsistent evidence and lack of knowledge of the detail of the transactions by referring to his lack of understanding of English. I do not accept that explanation. The witness was fluent in English and, in my view, well able to understand the questions asked of him and their significance. 29 Both the Debtors were called to give evidence. Mr Mare attempted to explain inconsistencies in his approach to the status of South Island (ie. by not mentioning its debt when dealing with other financial institutions) and its uncommercial approach to their financial dealings as "trivial carping" by the applicant who was acting maliciously towards himself and Ms Steadman. She, on the other hand, professed little knowledge of the business affairs of her family including the mortgages held over the family home of which she was the registered proprietor. I do not accept her evidence in relation to these mortgages as credible. She swore, on oath, that, at the time of the hearing, the property was encumbered to both the ANZ Bank and South Island, (Transcript p 277). She said "To my knowledge one is the ANZ bank and the other one's with South Island Investments". In fact at the time of giving this evidence the ANZ mortgage had been refinanced and the house mortgaged to the National Australia Bank twelve months previously. Documents were tendered to show that she had the benefit of an explanation from a solicitor as to the effect of the document she was signing. Even a person who is reliant on another in relation to financial affairs would remember these matters. This witness was unco-operative and in my view, disingenuous in her responses to questions. SHOULD RELIEF BE GRANTED UNDER S 239? 30 The discretion given to the Court under s 239 to set aside a composition is wide. In Re Mills; ex parte Lloyds (1997) 73 FCR 551, Merkel J set out and applied, in deciding that case, a range of factors which are relevant to the exercise of the discretion. The discretion might be exercised -

3. because the amount offered under the composition is little or trivial.
4. because no payments have been made under the composition. 5. because the report to creditors the foundation on which the composition was passed, was misleading. 31 Counsel for the Debtors urged consideration of other relevant factors, namely: (a) the cost of further enquiry (although it would be borne by the applicant). (b) the effect of bankruptcy on the livelihood, as a director, of Mr Mare. (c) the effect of bankruptcy on his reputation among the Dutch community in Sydney. (d) his "bonafide" attempts to "settle" with the applicant, who has, unreasonably, refused. (e) the withdrawal of the proofs of debt by all other creditors leaving a substantial dividend, in composition, to the applicant. 32 To deal with these matters in turn -
   1. The controlling trustee, was, as he stated in his report, of the view that further enquiry of these two debtors was warranted and this would be best addressed in bankruptcy, if it could be funded. Funding is now available from the applicant and, the first respondent has agreed that it would be a factor to be taken into account in whether the compositions should be set aside. The Debtors have pointed out that no one has heard from the new principal of South Island, Mrs Caldera. Bankruptcy will allow a full opportunity for Mrs Caldera to take a leading role in asserting her security, if she so wishes.
   2. The evidence given in these proceedings, and the voluminous material tendered undoubtedly gives "cause for a suspicion" that there may be assets which will benefit genuine creditors. There is not, in my view, any need in coming to that conclusion to make conclusive findings as to the "sham" transactions creating other debts because, the existence of a "possibility" of advantage is sufficient. In this case, further enquiries and investigation will benefit the creditors.
   3. The amount offered in the composition was initially, at most, 1c in the dollar. The Debtors argue that, subsequently, since all other creditors have withdrawn their proofs, this has increased greatly. However, if the "sham" documents are demonstrated as such, the applicant, here, as creditor will be substantially advantaged.
5. No payments have been made under the composition. 5. The report to the creditors was deficient in a number of respects, a fact which was conceded by the first respondent, in particular in relation to the "satisfactory" behaviour of the Debtors, and the status of the applicants' debt which was acknowledged as "set in gold" but impugned in the report. 33 Counsel for the first respondent described his client as having taken a "pragmatic" approach encouraged by a high level of self interest. I agree with that submission. However as stated previously even with the financial incentive of a successful composition, the controlling trustee saw bankruptcy as appropriate. 34 The factors pressed on the Court by the Debtors do not outweigh the other matters I have referred to above and I am satisfied that they warrant the exercise of the power under s 239 and, further, to order that the estate of the Debtors be sequestrated. 35 Having come to this conclusion, for the reasons stated above, there is no reason to consider whether the exercise of other powers is available, or the orders sought should be made. In particular, it has not been necessary for me to come to a concluded view as to whether the arrangements between the Debtors and South Island are a sham. There is a great deal of evidence which raises that inference. However, in bankruptcy, all those affected will have the appropriate opportunity to establish the truth of the matter, one way or another. I certify that the preceding thirty-five (35) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice O'Connor.

Solicitor for the Applicant: Australian Government Solicitor

Solicitor for the First Respondent: Bowles & Associates

Counsel for the Second Respondents: J K Chippindall

Solicitor for the Second Respondents: M D Nikolaidis & Co

Date of Hearing: 14-16 December 1998, 21-22 January 1999, 1 and 10 February 1999

Date of Judgment: 26 March 1999