Set-off - relationship between set-off in bankruptcy and equitable set-off and set-off under the Statutes of Set-Off.

Bankruptcy Act 1966

Supreme Court Act 1970 (N.S.W.)

Bankruptcy Act of 1867 (U.S.)

Bankruptcy Act of 1898 (U.S.)

Day and Dent Constructions Proprietary Limited (In Liquidation) v North Australian Properties Proprietary Limited (Provisional Liquidator Appointed) [1982] HCA 20; (1982) 150 CLR 85 Hiley v The Peoples Prudential Assurance Company Limited (In Liquidation) [1938] HCA 40; (1938) 60 CLR 468

Re a Debtor (1956) 3 All ER 225

Stewart v Latec Investments Ltd. (1968) 1 NSWR 432

Gibson v Bell [1835] EngR 717; (1835) 1 Bing NC 743, 131 ER 1303

Bittleston v Timmis [1845] EngR 465; (1845) 1 CB 389, 135 ER 591

Peat v Jones and Co. (1881) 8 QBD 147

In re Daintrey (1900) 1 QB 546

Mitchell v Purnell Motors Pty. Ltd. (1961) NSWR 165

Felton v Mulligan [1971] HCA 39; (1971) 124 CLR 367

Ex parte Mennett (1812) 1 Rose 395

Ridout v Brough [1774] EngR 29; (1774) 1 Cowp 133, 98 ER 1006

Freeman v Lomas [1851] EngR 689; (1851) 9 Hare 109, 68 ER 435

Ex parte Cleland (1867) LR 2 Ch App 808

Jeffs v Wood [1723] EngR 15; (1723) 2 P Wms 128, 24 ER 668

Ryall v Rowles [1749] EngR 11; (1749) 1 Ves 374, 27 ER 1074

Ex parte Stephens [1805] EngR 113; (1805) 11 Ves 24, 32 ER 996

Elna Australia Pty. Ltd. v International Computers (Aust.) Pty. Ltd. (1987) 14 FCR 461

Cumberland Glass Manufacturing Company v De Witt and Company [1915] USSC 134; 237 US 447 (1914)

Hongkong and Shanghai Banking Corp. v Kloeckner and Co. AG (1989) 3 All ER 513

Re Paddington Town Hall Centre Ltd. (In Liquidation) (1979) 41 FLR 239

National Westminster Bank Ltd. v Halesowen Presswork and Assemblies Ltd. (1972) AC 785

Stehar Knitting Mills Pty. Ltd. v Southern Textile Converters Pty. Ltd. (1980) 2 NSWLR 514

D. Galambos and Son Pty. Ltd. v McIntyre (1974) 5 ACTR 10

In re City Life Assurance Company, Limited (1926) Ch 191

Page v Commonwealth Life Assurance Society Ltd. [1935] NSWStRp 70; (1936) 36 SR (NSW) 85

In re D.H. Curtis (Builders) Ltd. (1978) Ch 162

Re Islington Metal and Plating Works Ltd. (1983) 3 All ER 218

In re Newman (1876) 3 Ch D 494

Graham v Russell (1816) 5 M and S 498, 105 ER 1133

Eberle's Hotels and Restaurant Company v Jonas (1887) 18 QBD 459

In re Mid-Kent Fruit Factory (1896) 1 Ch 567

Jack v Kipping (1882) 9 QBD 113

Tilley v Bowman, Limited (1910) 1 KB 745

British Transport Commission v Gourley [1955] UKHL 4; (1956) AC 185

instructed by

Messrs. Price Brent.

Counsel and Solicitors Mr. G.A. Palmer QC

(1) Orders that the declaration made 9 October 1989 in

terms of para. 2 of the Short Minutes of Order of

that date be set aside.

(2) Declares that pursuant to the Bankruptcy Act 1966

the appellant is entitled to have set-off moneys

due to her by the respondent under a judgment

entered in the Supreme Court of New South Wales on

24 June 1982 in proceedings No. 210 of 1982

(Newcastle Registry) against moneys due by her to

the respondent under a judgment entered in the

Supreme Court of New South Wales on 12 September

1988 (but with effect from 24 June 1988) in

proceedings No. 14411 of 1984 (Sydney Registry).

(3) Orders that the respondent pay the appellant's

costs of the appeal and of the proceedings at first

instance.

(4) Orders that the appeal otherwise be dismissed.

(1) Orders that the declaration made 9 October 1989 in

terms of para. 2 of the Short Minutes of Order of

that date be set aside.

(2) Declares that pursuant to the Bankruptcy Act 1966

the appellant is entitled to have set-off moneys

due to her by the respondent under a judgment

entered in the Supreme Court of New South Wales on

24 June 1982 in proceedings No. 210 of 1982

(Newcastle Registry) against moneys due by her to

the respondent under a judgment entered in the

Supreme Court of New South Wales on 12 September

1988 (but with effect from 24 June 1988) in

proceedings No. 14411 of 1984 (Sydney Registry).

(3) Orders that the respondent pay the appellant's

costs of the appeal and of the proceedings at first

instance.

(4) Orders that the appeal otherwise be dismissed.

Note: Settlement and entry of orders is dealt with by Order 124 of the Bankruptcy Rules.

These appeals relate to facts and statutory provisions which are fully explained in the reasons of Gummow and von Doussa JJ., which I have read. For my purposes, it is enough to set out a briefer account.

2. In 1980, the respondents and others agreed to buy property, induced to do so by statements made on behalf of the appellant. The purchase was financed partly by money borrowed on mortgage from the appellant, but the borrowers failed to pay that debt. In 1982, the appellant obtained judgment against the respondents and others for the then amount of the mortgage debt. In 1985, each of the respondents entered into a composition under Part X of the Bankruptcy Act 1966 with his creditors, promising to pay certain sums. In 1988, judgment was entered against the appellant and her husband in the Supreme Court of New South Wales (Brownie J.) on a claim (instituted in 1983) for damages for deceit relating to the statements which induced the purchase.

3. The appellant says that she is entitled to set-off, against her liability under the judgment for damages for deceit, the amount the respondents owe her on the mortgage debt judgment. The importance of the question from the appellant's point of view is that, if there is no set-off and no other solution to her problem exists, then she will have to pay the deceit judgment in full, whereas the mortgage debt due to her can only be the subject of proof in the compositions. Section 86(1) of the Bankruptcy Act, which is made applicable to compositions under Part X by s.243(1), is as follows:

"Subject to this section, where there have been

mutual credits, mutual debts or other mutual

dealings between a person who has become a bankrupt

and a person claiming to prove a debt in the

bankruptcy -

(a) an account shall be taken of what is due from

the one party to the other in respect of those

mutual dealings;

(b) the sum due from the one party shall be set

off against any sum due from the other party;

and

(c) only the balance of the account may be claimed

in the bankruptcy, or is payable to the

trustee in the bankruptcy, as the case may be."

4. The main question of construction of this provision is what the word "mutual" means, as also the expression "mutual dealings".

5. The primary judge held that some limitation must be given to the expression "mutual dealings", that only such claims as are provable in bankruptcy are capable of set-off and that the claim against the appellant was not a provable one at the date of the composition; nor, his Honour thought, were the claim in deceit and the mortgage debt "so intertwined in a manner that could properly be described as mutual".

6. The primary judge pointed out that "mutual credits, mutual debts or other mutual dealings" is an expression which first appeared in the corresponding English provision in 1869. Despite its relative antiquity, the expression seems never to have been comprehensively explained by the High Court of Australia or House of Lords. Other courts have made various proposals as to its meaning. An example at one end of the spectrum is the view of Brett L.J. in Peat v. Jones and Co. (1881) 8 QBD 147 at 149:

"It seems to me that the expression 'mutual debts

and credits' was intended to comprise all ordinary

transactions between the two persons in their

individual capacities, and that 'mutual dealings'

was added to get rid of any questions which might

arise whether a transaction would end in a debt or

not."

7. Although the word "ordinary" adds a touch of mystery, this passage appears to read down the word "mutual" so as to require only that each obligation be one in favour of the obligee is his "individual capacity". But in the same case, Jessel M.R. seems to give "mutual" a more conventional meaning:

"What we have to consider, however, is whether such

claims as these are properly the subject of set-off

or not. I think they are, because a contract of

sale and purchase is in its nature mutual, imposing

reciprocal obligations on the vendor and purchaser."(149)

8. I note in passing that one difficulty about confining the scope of the statutory set-off to cases where the obligations are mutual in the sense that they arise from the same source or transaction is that such a construction would exclude even some provable debts presently due. If, at the date of bankruptcy, there is a debt immediately due to the bankrupt for, say, goods sold, and a debt the other way for repayment of money lent, surely s.86 would intend them to be able to be set-off, even if they originated in separate and unrelated transactions.

9. The idea that mutuality involves restricting the set-off to claims arising out of contract has persisted; see, for example, In re Mid-Kent Fruit Factory (1896) 1 Ch 567 at 570-572; but in In re D.H. Curtis (Builders) Ltd (1978) Ch 162, Brightman J. (as he then was) declined to accept that the corresponding English section applies only to "mutual debts, mutual credits and mutual dealings which arise out of contract" (173). It may be, as the primary judge appears to have thought, that the limitation to claims arising out of contract is relevant only to "mutual dealings" - see p 470.9 of 89 ALR. But accepting that "mutual dealings" is so limited, that limitation does not affect the appellant here; plainly the claim for damages for deceit against her arose out of contract in the sense which is relevant in this area of the law: Jack v. Kipping (1882) 9 QBD 113, Tilley v. Bowman Ltd (1910) 1 KB 745. In each of those cases, damages for deceit inducing a purchase were held to be within the set-off provision. The real problem for the appellant is not that, but is whether it is necessary that the contract to which the claim for deceit relates be the very contract which gave rise to the debt due to the appellant, or whether some less direct connection between the two obligations is enough.

10. It is my respectful opinion that the connection between the deceit claim and the mortgage debt is sufficiently close. As the primary judge pointed out, there was no evidence as to how the mortgage in favour of the appellant came about; but there was an unchallenged statement that the purpose of the loan was to assist in the purchase: para.(c) of the affidavit of the respondent Gye, dated 24 November 1982. That view of the matter is supported by what Brownie J. said in his reasons of 13 April 1988, p 41. The connection between the two obligations is, to put it simply, that the damages were payable by the appellant for what she did to induce the respondents to purchase the property and the loan by the appellant was made to assist in that purchase.

11. There is some authority in favour of the view that to permit set-off under s.86 between a damages claim and a debt, each need not arise out of the same contract. In Hiley v. The Peoples Prudential Assurance Company Limited [1938] HCA 40; (1938) 60 CLR 468, one obligation which was set-off was a claim against an insurance company for damages on account of its repudiation of a policy, and the other was a mortgage debt. The policy and the loan were related in that the mortgage debt was incurred under a "House Property Purchase System", under which, after paying certain premiums, the policy holder could borrow from the insurance company on the security of a mortgage. It does not appear whether the scheme gave a policy holder an absolute right to an advance, but it is clear that the policy (dated 1923) and the mortgage (dated 1927) were separate contracts.

12. The principal issue in Hiley's case related to the circumstance that the mortgage debt was not, at the date of winding up, due to the wound-up assurance company, which had earlier assigned it; that company regained it in the course of liquidation, under a settlement of a dispute. But Hiley's case is also authority on the question whether a damages claim must, to be the subject of set-off under the Bankruptcy Act, arise out of the same contract as did the debt against which it is to be set-off. There the two contracts were related, but not the same. Latham C.J., who was in dissent on the main point, said:

"The transaction between Hiley and the plaintiff was

a mutual dealing which resulted in mutual debts.

The liability of an insurance company upon its

policies forms a mutual debt or mutual dealing with

a policy holder who has borrowed money on the

policy from the assurance company. The claim of

the policy holder for damages for the repudiation

of the policy is a claim for unliquidated damages.

Such a claim can be proved in the winding up and it

can be the subject of set-off against a mortgage

debt due from the policy holder to the company ..."

(480)

13. It was not argued in that case that the fact that mortgage was a separate transaction prevented set-off against the claim for damages based on the policy. Despite that limitation on the authority of Hiley's case, it appears to me to support the view that there is enough connection between the two contracts in issue here to enable set-off. This is not a case where the damages claim relates, as it did in Jack v. Kipping, to the very contract which gave rise to the debt sought to be set-off, but neither was Hiley's case of that kind. There, the debt arose from a loan made some years after the policy for breach of which damages were sought. In the present case, there was a gap of nearly a year between the settlement of the respondent's purchase and the execution of the mortgage, but there seems to have been no dispute that the money borrowed was used in the purchase.

14. A further reason for thinking, as I do, that the two obligations are sufficiently connected for them to be described as mutual is that there is a practical relationship between the loss for which Brownie J. awarded damages and the debt due to the appellant. Brownie J. subtracted the value of the property bought from the contract price and awarded damages accordingly. But by the time his Honour came to assess damages, the obligation which the respondents had undertaken in connection with the purchase had in a commercial sense diminished. The benefit to the respondents from this diminution of liability must have been treated as a collateral matter, not affecting damages: cf. British Transport Commission v. Gourley [1955] UKHL 4; (1956) AC 185 at 214. I do not, with respect, doubt the correctness of Brownie J.'s approach, but it is nevertheless important to note that events which happened before the assessment of damages reduced the sum which the respondents were obliged to pay in discharge of moneys borrowed to effect the purchase.

15. Like Gummow and von Doussa JJ., I also take into account that it was said of s.86 in Day and Dent Constructions Pty Ltd v. North Australian Properties Pty Ltd [1982] HCA 20; (1982) 150 CLR 85 that:

"It is reasonable to impute to Parliament an

intention that the provision, which is a protective

provision, be given the 'widest possible scope'

..." (108)

16. I conclude that, on the assumption that it is necessary to show that the damages claim and the debt arise out of contracts which are sufficiently connected with one another, the deceit, which related to the purchase contract, and the loan, which was used to help to pay the purchase price, were so connected; there was mutuality.

17. I am therefore of opinion that the primary judge was wrong in holding that the two obligations fall outside s.86.

18. I agree that the orders proposed by Gummow and von Doussa JJ. should be made.

These appeals were heard together. They are brought from the judgment of a Judge of this Court (Hill J.) delivered 27 September 1989, in which his Honour dealt with four applications which, by consent, had been heard together. His Honour's judgment is reported, (1989) 89 ALR 460.

2. The litigation arose in the following circumstances. In the period before October 1980, Mawsons Hotels Pty. Limited ("Mawsons Hotels") was the owner of certain land at Wilberforce in the State of New South Wales upon which stood what was called the "Tropicana Hotel-Motel"; upon adjacent land there stood the "Australiana Pioneer Village". The appellant (Mrs. McIntyre) was licensee of the hotel, and a tenant of Mawsons Hotels. Pursuant to a contract entered into in October 1980, Mawsons Hotels sold the hotel and "village" to a syndicate of five persons, two of whom were the present respondents, Mr. Perkes and Mr. Gye (who are solicitors). It appears that there was also other land the subject of an agreement for sale either between Mawsons Hotels and the syndicate, or a related company of Mawsons Hotels and the syndicate. The purchase price for the whole of the land in question was $1.25m. To finance the purchase, Mawsons Hotels took a mortgage back of $600,000. There was also a second mortgage over the land, together with a collateral mortgage, to secure an indebtedness of the syndicate to Mrs. McIntyre of $200,000, the purpose of the loan had been to assist in the purchase.

3. The business operations of the syndicate proved to be unsuccessful, and in October 1982 Mawsons Hotels, as first mortgagee, took possession. By proceedings instituted in the Supreme Court of New South Wales on 7 June 1982, Mrs. McIntyre sued the five members of the syndicate to recover the principal and interest due under the securities held by her. On 24 June 1982, a default judgment was entered against the five members of the syndicate for $224,000 (being the $200,000 plus interest thereon amounting to $24,000) together with costs assessed at $215. The Supreme Court Act 1970 (N.S.W.) ("the Supreme Court Act"), s. 95, provides for interest upon judgment debts, payable from when the judgment takes effect. Any judgment of the Supreme Court for the payment of money shall have the effect of a judgment at law: sub-s. 96 (1).

4. On 13 September 1982 and 15 September 1982 respectively, bankruptcy notices based upon these judgments were issued, pursuant to the provisions of the Bankruptcy Act 1966 ("the Bankruptcy Act"), against Mr. Perkes and Mr. Gye. Applications were made to the Supreme Court to have the default judgments set aside. The Supreme Court refused to do so, but, on 13 December 1982, a Master ordered that execution on the judgments be stayed pending determination of a cross-claim in the proceedings to be instituted by Messrs. Perkes and Gye against Mr. and Mrs. McIntyre. The cross-claim was filed 7 January 1983, and was amended on 17 November 1987. In the meantime, on 9 August 1983 and 7 March 1984 respectively, the bankruptcy notices against Mr. Perkes and Mr. Gye were set aside by a Judge of this Court.

5. On 8 March 1985, Mr. Gye signed an authority, pursuant to s. 188 of the Bankruptcy Act, authorising Mr. W.E. Andrew, a registered trustee, to call a meeting of his creditors for the purposes of Part X of the Bankruptcy Act, and to take over control of his property in accordance with that Part. The meeting of creditors pursuant to s. 194 of the Bankruptcy Act was held on 3 April 1985, and Mr. Andrew was appointed trustee of the composition accepted by the meeting.

6. On 12 June 1985, Mr. Perkes executed an authority under s. 188 of the Bankruptcy Act authorising Mr. Andrew to call a meeting of his creditors for the purposes of Part X, and to take over control of his property in accordance with that Part. This meeting of creditors was held on 28 June 1985 and Mr. Andrew was appointed trustee of the composition accepted by the meeting.

7. The cross-claim in the Supreme Court proceedings came to trial in the Commercial Division of the Supreme Court of New South Wales, and judgment was delivered by Brownie J. on 13 April 1988. After hearing further evidence and submissions, Brownie J. delivered further reasons for judgment on 17 June 1988.

8. The cross-claim was brought by Messrs. Gye and Perkes against Mrs. McIntyre and her husband, claiming damages for deceit. It was heard together with a separate action brought by Messrs. Gye and Perkes as plaintiffs against an accountant who had acted for the McIntyres, claiming damages in deceit and negligence. Messrs. Gye and Perkes alleged that they joined in the purchase of the Wilberforce property on the basis of representations made by the McIntyres as to the past financial results of the hotel business. One of the particulars of loss claimed was the liability of Messrs. Gye and Perkes under the mortgage to Mrs. McIntyre. The relief sought included an order setting aside that security, as against Messrs. Gye and Perkes. In the event, only damages were awarded.

9. In the supplementary judgment delivered on 17 June 1988, Brownie J. refused to direct the entry of judgment, as between Mrs. McIntyre on the one hand and Messrs. Gye and Perkes on the other hand, for the balance only of the moneys awarded on their respective claims against each other pursuant to sub-s. 91 (2) of the Supreme Court Act. In reaching his decision, his Honour referred to the complications which had arisen from the steps taken by Mrs. McIntyre to enforce the 1982 judgment by the issuing of bankruptcy notices, and to the entry by Mr. Gye and Mr. Perkes into compositions in 1985, pursuant to Part X of the Bankruptcy Act. His Honour said that he considered that each of Mr. Gye and Mr. Perkes was entitled to judgment against Mr. and Mrs. McIntyre (and also against the accountant) for 16% of $636,500 (representing their shares in the syndicate) together with interest thereon under the provisions of s. 94 of the Supreme Court Act, and costs. His Honour left for this Court any question of set-off under s. 86 of the Bankruptcy Act. On 12 September 1988, judgment was entered that the McIntyres pay each of the cross-claimants, Messrs. Gye and Perkes $214,600.89 and costs including any reserved costs. The judgments had effect from 24 June 1988. This was the starting date for the computation of interest under s. 95 of the Supreme Court Act. An appeal against the decision on the cross-claim was brought to the New South Wales Court of Appeal. On 31 May 1989 the appeal was dismissed with costs.

10. We return to the four applications which were before Hill J. in this Court. The trustee, Mr. Andrew, was a party to the applications but played no part therein other than to submit to any order other than as to costs. In the application in matter No. W79 of 1985, which is dated 8 June 1989, Mr. Gye sought a declaration that in his composition Mrs. McIntyre was not entitled to set-off the amount payable to her under the 1982 Supreme Court judgment against the amount payable by her under the 1988 judgment. By the application in matter No. W170 of 1985, which also is dated 8 June 1989, Mr. Perkes sought relief, as regards himself, to the same effect as that sought by Mr. Gye. It is important, at the outset, to note that the relief sought was a denial of entitlement to set-off two judgment debts; the proceedings were not concerned with unliquidated claims.

11. By application No. W79 of 1985, dated 19 June 1989, Mrs. McIntyre sought orders that the composition entered into by Mr. Gye on or about 3 April 1985 be declared void pursuant to sub-s. 222 (4) (b) of the Bankruptcy Act, and that the composition be terminated pursuant to sub-s. 242 (1) (c) of the Bankruptcy Act. Mrs. McIntyre also sought a sequestration order against Mr. Gye's estate. She further contended that her judgment debt could not be proved by her in the composition because at the date of the composition its enforceability was contingent upon the lifting of the stay imposed by order of the Master on 13 December 1982. By application No. W170 of 1985, also dated 19 June 1989, Mrs. McIntyre sought relief to like effect against Mr. Perkes.

12. Matters had been brought to a head by several steps taken by Mr. Andrew in the composition by Mr. Perkes. On 31 August 1988, Mr. Andrew gave notice of his intention to declare a final dividend and required Mrs. McIntyre to lodge any proof of debt by 30 September 1988. On 5 October 1988, Mr. Andrew issued his certificate that Mr. Perkes had carried out the terms of his composition.

13. The four applications were heard by Hill J. on 10 August 1989, and judgment was delivered on 27 September 1989. His Honour ordered that the applications brought by Mrs. McIntyre in each of the proceedings No. W170 of 1985 and No. W79 of 1985, be dismissed with costs. On the issues of set-off, his Honour declared that Mrs. McIntyre was not entitled to the set-off claimed by her. His Honour also held that there had been no impediment to proof by her in the compositions of the judgment debt.

14. The present appeal was conducted on the footing that if Mrs. McIntyre were successful on the set-off issue, then she had no interest in pursuing the challenge to the compositions, or the point as to the insusceptibility of her judgment debt to proof in the compositions. Accordingly, we turn first to consider the set-off issue.

15. The judgment recovered in the Supreme Court in 1982 by Mrs. McIntyre against Mr. Gye and Mr. Perkes was plainly in respect of a liquidated claim based on the indebtedness arising from the covenants in the second mortgage. The claim upon which Mr. Gye and Mr. Perkes succeeded against Mrs. McIntyre was brought in proceedings seeking damages and certain specific relief for deceit. Whilst the unliquidated claim in tort was on foot before the entry into the compositions, it matured into a judgment debt after the entry into the compositions. It also is to be borne in mind that this claim was brought by, not against, the debtors who had entered into these compositions.

16. The central provisions in the Bankruptcy Act for the purposes of this question of set-off are ss. 82 and 86. Section 82 is in the following terms:

"82 (1) Subject to this Division, all debts

and liabilities, present or future,

certain or contingent, to which a

bankrupt was subject at the date of

the bankruptcy, or to which he may

become subject before his discharge

by reason of an obligation incurred

before the date of the bankruptcy,

are provable in his bankruptcy.

. . .

(2) Demands in the nature of unliquidated

damages arising otherwise than by

reason of a contract, promise or

breach of trust are not provable in

bankruptcy.

. . .

(4) The trustee shall make an estimate of

the value of a debt or liability

provable in the bankruptcy which, by

reason of its being subject to a

contingency, or for any other reason,

does not bear a certain value.

. . .

(8) In this section, 'liability' includes -

(a) compensation for work or

labour done;

(b) an obligation or possible

obligation to pay money or

money's worth on the breach of

an express or implied

covenant, contract, agreement

or undertaking, whether or not

the breach occurs, is likely

to occur or is capable of

occurring, before the

discharge of the bankrupt; and

(c) an express or implied

engagement, agreement or

undertaking, to pay, or

capable of resulting in the

payment of, money or money's

worth, whether the payment is -

(i) in respect of amount -

fixed or unliquidated;

(ii) in respect of time -

present or future, or

certain or dependent on a

contingency; or

(iii) in respect of the manner

of valuation - capable of

being ascertained by fixed

rules or only as matter of

opinion."

This provision is modified in its application to compositions. Sub-sections 243 (1) and (2) deal as follows with the application of the general provisions of the Bankruptcy Act to compositions:

"243 (1) Sections 82 to 107 (inclusive) and

140 to 148 (inclusive) apply, with

the prescribed modifications (if

any), in relation to a composition

under this Part as if -

(a) a sequestration order had been

made against the debtor on the

day on which the special

resolution accepting the

composition was passed; and

(b) the trustee of the composition

were the trustee in his

bankruptcy.

(2) In the application of the provisions

of this Act specified in subsection

(1) in relation to a composition, a

reference to a provable debt shall be

read as a reference to a provable

debt within the meaning of this

Part."

"187 (2) In this Part, a reference, in

relation to a deed or a composition,

to a provable debt shall be read as a

reference to a debt or liability that

would have been a provable debt in

the debtor's bankruptcy if the debtor

had become a bankrupt on the day on

which he executed the deed or on

which the special resolution

accepting the composition was passed,

as the case may be."

17. However, sub-section 187 (2) has to be read with the modifications prescribed for the purposes of s. 243 by Rule 84. Rule 84 provides, inter alia, that s. 82 of the Act is modified by omitting sub-s. 82 (1), and substituting:

"(1) Subject to this Division, all debts and

liabilities to which a bankrupt was subject

at the date of bankruptcy are provable in

his bankruptcy."

Further, sub-s. 82 (8) is omitted, and the following substituted:

"(8) In this section, 'liability' includes -

(a) compensation for work or labour done;

and

(b) an express or implied engagement,

agreement or undertaking to pay, or

capable of resulting in the payment

of, money or moneys' worth, whether

the payment is -

(i) in respect of amount - fixed

or unliquidated; or

(ii) in respect of the manner of

valuation - capable of being

ascertained by fixed rules or

only as matter of opinion."

18. The effect of the substitute provision for sub-s. 82 (8) is that para. (a) thereof remains unchanged, para. (b) is omitted and para. (c) is restricted by excluding sub-para. (ii). Sub-paragraph 82 (8) (c) (ii) deals with obligations to make payments whether, in respect of time, present or future, or certain or dependent on a contingency. This effect is consistent with sub-s. 198 (2) which provides that a creditor is not entitled to vote at a meeting of creditors in relation to an arrangement with creditors without sequestration, in respect of an unliquidated or contingent debt or a debt the value of which is not ascertained; further, sub-s. 198 (3) provides that for the purpose of enabling a creditor to vote, a debt that is certain but is payable in the future shall be deemed to be payable at the time of the meeting.

19. Section 86, in its application to compositions, is picked up unchanged otherwise than as provided by the general provisions of sub-s. 243 (1).

20. Section 86 is of central importance to this appeal. It is in the following terms:

"86 (1) Subject to this section, where there

have been mutual credits, mutual

debts or other mutual dealings

bankrupt and a person claiming to

prove a debt in the bankruptcy -

(a) an account shall be taken of

what is due from the one party

to the other in respect of

those mutual dealings;

(b) the sum due from the one party

shall be set off against any

sum due from the other party;

and

(c) only the balance of the

account may be claimed in the

bankruptcy, or is payable to

the trustee in the bankruptcy,

as the case may be.

(2) A person is not entitled under this

section to claim the benefit of a

set-off if, at the time of giving

credit to the person who has become a

bankrupt or at the time of receiving

credit from that person, he had

notice of an available act of

bankruptcy committed by that person."

21. The operation of s. 86 was considered by the High Court in Day and Dent Constructions Proprietary Limited (In Liquidation) v North Australian Properties Proprietary Limited (Provisional Liquidator Appointed) [1982] HCA 20; (1982) 150 CLR 85. Mason J. (at 108) described s. 86 as a "protective provision" which was to be given the widest possible scope. Gibbs C.J. (at 95) said:

"It is well understood that the law which

relates to the set-off of mutual dealings

in bankruptcy, which has a long history,

exists to prevent the injustice of a man

who has had mutual dealings with a

bankrupt from having to pay in full what

he owes in respect of such dealings while

only receiving a dividend on what the

bankrupt owed him in respect of them:

see Ex parte Barnett; In re Deveze (1874)

9 Ch App 293 at p 297. On the other

hand it would be unjust to the creditors

of the bankrupt if a debtor of the

bankrupt could after the bankruptcy buy

up liabilities of the bankrupt for the

purpose of setting them off against his

own indebtedness."

22. In this case, the High Court, applying the reasoning in Hiley v The Peoples Prudential Assurance Company Limited (In Liquidation) [1938] HCA 40; (1938) 60 CLR 468, held that a debt sought to be set-off under s. 86 need not actually accrue before the commencement of the bankruptcy. In the case of liability under a guarantee, the essential factor is that before the bankruptcy the surety has an obligation which on payment to the creditor will result in a debt owing by the principal debtor to the surety; it is sufficient that the obligation of the principal debtor has become an actual liability by the time the account is taken under s. 86. In the High Court the contrary view, taken of British legislation by the English Court of Appeal in Re a Debtor (1956) 3 All ER 225, was not applicable to s. 86. Mason J. said (150 CLR at 107):

"Paragraphs (a) and (b) of s. 86 (1) are

expressed in the present, not the past,

tense indicating that the ascertainment

of what is due and the allowance of the

set-off is to take place at the time of

the taking of the account. This is

inconsistent with what we would have

expected s. 86 (1) to have referred to,

namely what 'was' due and what 'was'

payable to the trustee in bankruptcy

(i.e. at the date of bankruptcy), if the

Re a Debtor approach were correct, yet

par. (a) requires the taking of account

of what 'is' due and par. (c) refers to

what 'is' payable."

23. On the present appeal, counsel for the respondents stressed the importance of reading that and other passages in the High Court judgments against the background of the long history to which Gibbs C.J. referred. To some of that history we now briefly turn.

24. At least some species of equitable set-off have a substantive operation independently of any court order or procedure; an example is provided by the decision of Street J. in Stewart v Latec Investments Ltd. (1968) 1 NSWR 432. On the other hand, the form in which sub-s. 86 (1) is expressed may suggest that the right of set-off it confers (like that provided for in the Statutes of Set-Off) is procedural rather than substantive in character. It is true that s. 86 of the Bankruptcy Act, like its predecessors, is directed to a particular procedure, the taking of an account. Thus, the cross-obligations subsist until the account is taken: Derham "Set-Off", pp 73-74, 156.

25. However, the closing words of para. 86 (1) (c) indicate that where there is a balance payable to the trustee, only that part of the sum due from the creditor of the bankrupt "is payable" to the trustee. This gives the result of the account substantive effect. Thus, under the antecedent law in the United Kingdom, it was long ago held that the set-off provided for in the bankruptcy statutes might be pleaded by the creditor, as defendant by way of confession and avoidance of an action at law which was brought by the assignee in bankruptcy to satisfy the bankrupt's claim and for the benefit of the bankruptcy administration. Examples where the bankruptcy set-off law was relied upon in this way are Gibson v Bell [1835] EngR 717; (1835) 1 Bing NC 743, 131 ER 1303; Bittleston v Timmis [1845] EngR 465; (1845) 1 CB 389, 135 ER 591; Peat v Jones and Co. (1881) 8 QBD 147 at 149; In re Daintrey (1900) 1 QB 546. A modern Australian example is Mitchell v Purnell Motors Pty. Ltd. (1961) NSWR 165 at 169; in such a case a State court would be exercising federal jurisdiction: Felton v Mulligan [1971] HCA 39; (1971) 124 CLR 367; Hiley's Case (supra). As the report of proceedings in this Court [1981] FCA 12; (34 ALR 595) indicates, the proceedings in Day & Dent Constructions (supra) itself were brought by company liquidators, and in those proceedings effect was given to the bankruptcy set-off provisions imported into corporate insolvent administrations.

26. Under the earlier British bankruptcy statutes, if the account had been taken by the bankruptcy commissioners, and a balance was due to the creditor, the assignees in bankruptcy were liable to be enjoined by the Lord Chancellor from pursuing an action against the creditor: Ex parte Mennett (1812) 1 Rose 395; Montagu, "A Summary of the Law of Set-Off", 2nd Ed., (1828) p 65. Further, a verdict obtained by the assignees in such an action at law might not be decisive, because the defendant in that action might still by a bill in Chancery seek directions that the assignees allow a set-off that was not considered or could not (for example, by reason of its character as an equitable debt) be considered in a court of law: Christian, "The Origin, Progress and Present Practice of the Bankrupt Law Both in England and in Ireland", 2nd Ed., 1818, Vol. 1, pp 517-518.

27. Hence, the common law courts, having regard to what Jessel M.R. in Peat v Jones and Co. (supra at 149), called "the equity of the statute", allowed the defendant to plead the set-off in the common law court, without him being under any necessity of applying for an injunction against the assignee in bankruptcy to compel him to give effect to the set-off against him. It should be noted also that by this means, unliquidated damages might be set-off by the court itself against the amount otherwise recovered by the assignee in the action at law; Peat v Jones and Co. (supra) was such a case.

28. What was the relationship between the bankruptcy statutes and the Statutes of Set-Off of 1729 (2 Geo. II, c. 22, s. 13, (U.K.)) and 1735 (8 Geo. II, c. 24, s. 5, (U.K.))? For the purposes of the set-off in bankruptcy, mutuality is determined by reference to the equitable interests of the parties, rather than to their bare legal rights, so that the beneficial owner of a debt may set it off against an obligation he owes to the debtor, and a set-off will be denied if one of the parties holds his debt as trustee: Hiley's Case (supra) at 488, 497. On the other hand, the Statutes of Set-Off were limited to mutual liquidated claims, both of which were due and payable at the date of the commencement of the plaintiff's action at law. As Day & Dent Constructions (supra) illustrates, the modern bankruptcy statutes have had a much wider reach.

29. In a number of cases, both species of set-off were pleaded to actions at law brought by assignees in bankruptcy. One of these was Ridout v Brough [1774] EngR 29; (1774) 1 Cowp 133, 98 ER 1006. On the face of it, the Statutes of Set-Off would not have applied because they required subsisting mutual debts and the mutuality would have been destroyed by the supervening bankruptcy. But, as Turner V-C pointed out in Freeman v Lomas [1851] EngR 689; (1851) 9 Hare 109 at 115[1851] EngR 689; , 68 ER 435 at 438, the assignees in bankruptcy were treated as the bankrupt for the purposes of the Statutes of Set-Off, thereby preserving identity of the parties to the cross-debts. Nevertheless, by the end of the last century, the tide of authority was reversed and the view was taken that mutuality in the sense of identity of parties was lost upon appointment of a trustee in bankruptcy, so that the Statutes of Set-Off were not applicable: see Ex parte Cleland (1867) LR 2 Ch App 808 at 813; In re Daintrey (supra at 548, 567).

30. What was the relationship between the bankruptcy statutes and equitable set-off? An equitable debt, such as a legacy, or an obligation to account in equity for breach of equitable duty, although not sufficient for the Statutes of Set-Off, was sufficient for the bankruptcy statutes: Jeffs v Wood [1723] EngR 15; (1723) 2 P Wms 128, 24 ER 668; Ryall v Rowles [1749] EngR 11; (1749) 1 Ves. 374, 27 ER 1074. Furthermore, despite contrary doubts expressed in this Court in Day and Dent Constructions [1981] FCA 12; (34 ALR 595 at 636-637), there were cases where the Lord Chancellor would direct the commissioners to admit a set-off arising in equity, but otherwise outside the bankruptcy statutes. This was so at least where it was necessary to do so in order to unravel the consequences of fraud practised upon the claimant by the bankrupt: Ex parte Stephens [1805] EngR 113; (1805) 11 Ves 24, 32 ER 996. But in that decision, Lord Eldon L.C. emphasised his special position as a judge exercising both statutory jurisdiction in bankruptcy and equitable jurisdiction. This Court as a court of bankruptcy is also a court of equity as to matters with which it is otherwise invested with jurisdiction; see Elna Australia Pty. Ltd. v International Computers (Aust.) Pty. Ltd. (1987) 14 FCR 461 at 466. It is unnecessary to decide whether such a jurisdiction as that exercised by Lord Eldon in Ex parte Stephens still subsists today.

31. In Ex parte Stephens, Lord Eldon L.C. emphasised the width of the set-off provisions in the bankruptcy statutes, even as they then stood. On the other hand, in Sawyer v Hoag 84 US 610 at 622 (1873), and in Cumberland Glass Manufacturing Company v De Witt and Company [1915] USSC 134; 237 US 447 at 455, 462 (1914) the United States Supreme Court characterized the set-off provisions of the then United States Bankruptcy Act of 1867 and the Bankruptcy Act of 1898, which were drawn from the British model, as not intended to enable a party to effect a set-off in cases where the principles of legal or equitable set-off did not previously authorise it. But this view did not go without criticism and there were decisions in lower courts in the United States which gave a wider scope to set-off in bankruptcy; see Bishop, "Set-Off In The Administration of Insolvent And Bankrupt Estates" (1901) 1 Col L Rev 377.

32. Further, whatever may be the position with the Statutes of Set-Off (as to which see Hongkong and Shanghai Banking Corp. v Kloeckner and Co. AG (1989) 3 All ER 513), the right to set-off under s. 86 may not be excluded by agreement: Re Paddington Town Hall Centre Ltd. (In Liquidation) (1979) 41 FLR 239.

33. The point to be made from a consideration of the tangled history of set-off in its various manifestations is that, as submitted by counsel for the appellant, there is much to be said for giving the words of s. 86 the full effect they bear, as a matter of ordinary meaning, consistent with the prevention of injustice.

34. It also is to be borne in mind that the bankruptcy law in this country is to be applied as a national law but in a federal system. The nature and content of the law as to set-off between solvent parties may vary from State to State, and from time to time. This consideration was something to which, in the setting of the English and Scots law, Lord Kilbrandon had regard when construing the British bankruptcy legislation in National Westminster Bank Ltd. v Halesowen Presswork and Assemblies Ltd. (1972) AC 785 at 822.

35. In 1971, that is to say after the enactment in 1966 of the present Australian bankruptcy legislation, the Statutes of Set-Off ceased to apply in New South Wales: Stehar Knitting Mills Pty. Ltd. v Southern Textile Converters Pty. Ltd. (1980) 2 NSWLR 514. The result in New South Wales appears to be that the only "true" form of set-off between solvent parties which is available under the law of that State is that species of equitable set-off which arises when cross-demands are so closely connected that the title to one is "impeached" by the other, in the sense discussed by Woodward J. in D. Galambos and Son Pty. Ltd. v McIntyre (1974) 5 ACTR 10. The point is made by Mr. Derham in the corrigenda to p 8 of his work "Set-Off". The differences between State laws as to set-off between solvent parties and the importance of a uniform operation of the bankruptcy law throughout the country favour a construction of s. 86 which does not define its content purely by reference to doctrines of set-off as understood in the laws of the States from time to time.

36. Mrs. McIntyre's judgments against Messrs. Perkes and Gye constituted present debts to which they were subject on the days on which the special resolutions accepting their compositions were passed, 3 April 1985 and 28 June 1985. In respect of each debtor, the debt would have been a provable debt if he had become a bankrupt on the day the special resolution was passed. What on 3 April 1985 and 28 June 1985 were the unliquidated claims in tort against Mrs. McIntyre (instituted on 7 January 1983) would not have been provable debts if, reversing the situation of the parties, it had been Mrs. McIntyre who on either date in 1985 had compounded with her creditors.

37. But by the time of the institution of the present proceedings in this Court, the compositions still being on foot, the claim of Mr. Perkes and the claim of Mr. Gye had merged in a present judgment debt. If an account were to be taken, then, consistently with the reasoning of the High Court in the Day and Dent Constructions Case, one would ascertain in this case what was due from the one party to the other at the time of the taking of the account by the trustee of each composition, and not have regard simply to the state of affairs at the time of the commencement of the compositions in 1985. From this it would follow that the appellant was entitled to declaratory relief, confirming the right of set-off, rather than (as happened) each respondent obtaining declaratory relief denying the right of set-off.

38. Section 86 does not apply where the credits or debts or dealings are not between the same persons, or where one of the parties was acting in a different capacity from that in which the dealings with the other took place; in such cases, there would be absent the necessary mutuality: In re City Life Assurance Company, Limited (1926) Ch 191 at 217. In the present case, the parties acted relevantly in the same capacities. And, as we have indicated, the claim in tort against Mrs. McIntyre arose out of dealings preliminary to and conducive of the purchase by Messrs. Gye and Perkes of property, part of the purchase price for which was secured to Mrs. McIntyre from Messrs. Gye and Perkes. There were mutual dealings in the necessary sense. Why then would s. 86 not apply?

39. The submissions for the respondents sought to avoid this result we have indicated by emphasising that unliquidated claims in deceit may not be proved in bankruptcy; sub-s. 82 (2) expressly excludes demands in the nature of unliquidated damages arising otherwise than by reason of a contract, promise or breach of trust. Earlier provisions took an even more restrictive view as to the proof of unliquidated claims. The exclusion of unliquidated claims in tort from the provisions for proof in bankruptcy legislation in this country and in Britain is traced by Jordan C.J. in Page v Commonwealth Life Assurance Society Ltd. [1935] NSWStRp 70; (1936) 36 SR (NSW) 85 at 89-99, and by Brightman J. in In re D.H. Curtis (Builders) Ltd. (1978) Ch 162 at 168-175. The retention of this rule has been both supported and criticized. Harman J. has referred to the practical difficulties that would follow if the rule against proof of unliquidated tort claims were abolished in its application to company liquidations: Re Islington Metal and Plating Works Ltd. (1983) 3 All ER 218 at 222-223. In its Report upon its General Insolvency Inquiry, ALRC 45, paras. 780-786, the Australian Law Reform Commission pointed in the other direction, to practical difficulties arising from the retention of the rule. The Commission supported the change made to the law in Britain by the Insolvency Act 1986 (U.K.).

40. But the present state of the law in Australia as to proof of unliquidated claims in tort does not control the result in these appeals. As Jordan C.J. pointed out in Page's Case (supra at 90), with reference to In re Newman (1876) 3 Ch D 494, damages recovered in a tort action might be proved in the bankruptcy or composition of the defendant if judgment was signed before the adjudication of bankruptcy or commencement of the composition. It is that circumstance together with the construction given s. 86 of the Bankruptcy Act by the High Court that produces the result in the present appeal which we have indicated earlier in these reasons.

41. However, as a further step in their submissions, the respondents submitted that the concept of "mutuality" in the legislation which preceded s. 86 involved "reciprocity", in the sense that a sum due to the bankrupt might not be brought into account unless it would have been provable had the creditor with that claim been a bankrupt. There is much authority under the earlier statutes for the proposition that a sum due from the bankrupt is not to be brought to account unless it would be provable in his bankruptcy; see Derham, "Set-Off" p 86. But what, as a matter of principle suggests that if there otherwise be the necessary mutuality, the sum due from the bankrupt be one for which he could have proved if his debtor had been bankrupt? Difficulty of valuation of an unliquidated claim cannot by itself be sufficient, because, as senior counsel for the respondents readily agreed, an unliquidated claim in contract might be set-off: Peat v Jones and Co. (supra). And it will be recalled that in recent times, any clear bright line in professional and commercial dealings between contract and tort is much reduced. The point is illustrated by the reasoning of the majority in Hawkins v Clayton (1988) 164 CLR 539.

42. Reliance for the respondents was placed upon Graham v Russell (1816) 5 M and S 498, 105 ER 1133. In truth, that case does not bear on the point. It was decided at a time before the statute of 1825, 6 Geo. IV c. 16, (U.K.) which allowed contingent debts to be set-off in bankruptcy. The case concerned a statute of 1746, 19 Geo. II c. 32, s. 2, (U.K.) which allowed an insured to prove his claim on a policy in the bankruptcy of the underwriter when the loss occurred after the bankruptcy. The Court of Exchequer Chamber reasoned that since the insured's claim could have been proved in the bankruptcy of the underwriter, it could have founded a set-off, and the underwriter (who in that case in fact was not a bankrupt) should be able to set-off the sum due to him for unpaid premiums in an action on the policy by the assignees of the bankrupt insured; this was so, even though the loss occurred after the insured's bankruptcy. The decision was criticised in the dissenting judgment of Wright J. in In re Daintrey (supra). In any event, it was concerned with facilitating, not restricting, the right to set-off. The decision was not concerned with the proposition for which the present respondents contend in construing s. 86 of the present Australian Act.

43. On the other hand, in Eberle's Hotels and Restaurant Company v Jonas (1887) 18 QBD 459 at 465, Lord Esher M.R. said that whilst some torts might give rise to a claim that was not a "dealing" in the sense of the bankruptcy statute, he would give the widest possible scope to the law so that it would apply whenever in the result the dealings on each side would end in a money claim, in the sense of a pecuniary liability. This passage was cited by Starke J. in Hiley's Case (supra at 490), and see also Mason J. in Day and Dent Constructions (supra at 108). Later, in In re D.H. Curtis (Builders) Ltd. (supra at 174), Brightman J. said that as a matter of construction of the British counterpart of s. 86, he saw no justification for limiting its operation to mutual claims which arise out of contract.

44. The present case involves the setting-off of what are now two judgment debts, there having been mutual dealings between the parties before the commencement of the compositions. That conclusion makes it unnecessary to determine whether the appeals might have succeeded on the other grounds argued.

45. In each appeal the declaration made by the learned primary judge should be set aside, and there should be a declaration as to the availability of set-off to the appellant against the respondent. The respondents should pay the appellant's costs both of each appeal and of the applications at first instance. Otherwise the appeals should be dismissed.