Scott v Duncan

Legislation 8 Section 588FF(1) of the Act provides in part: "Where, on the application of a company's liquidator, a court is satisfied that a transaction of the company is voidable because of section 588FE, the court may make one or more of the following orders: (a) an order directing a person to pay to the company an amount equal to some or all of the money that the company has paid under the transaction; … (c) an order requiring a person to pay to the company an amount that, in the court's opinion, fairly represents some or all of the benefits that the person has received because of the transaction." 9 Section 588FE(2) provides that a transaction is voidable if it is an insolvent transaction and was entered into during the six months ending on the relation back day. Sub‑section (3) provides that a transaction is voidable if it is both an insolvent transaction and an uncommercial transaction and was entered into during the two years ending on the relation back day. 10 Section 588FC provides: "A transaction of a company is an insolvent transaction of the company if, and only if, it is an unfair preference given by the company, or an uncommercial transaction of the company, and: (a) any of the following happens at a time when the company is insolvent: (i) the transaction is entered into; or (ii) an act is done, or an omission is made, for the purpose of giving effect to the transaction; or (b) the company becomes insolvent because of, or because of matters including: (i) entering into the transaction; or (ii) a person doing an act, or making an omission, for the purpose of giving effect to the transaction." 11 Section 588FA(1) provides in part: "A transaction is an unfair preference given by a company to a creditor of the company if, and only if: (a) the company and the creditor are parties to the transaction (even if someone else is also a party); and (b) 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 for the debt in a winding up of the company …." 12 Section 588FB(1) provides: "A transaction of a company is an uncommercial transaction of the company if, and only if, it may be expected that a reasonable person in the company's circumstances would not have entered into the transaction, having regard to: (a) the benefits (if any) to the company of entering into the transaction; and (b) the detriment to the company of entering into the transaction; and (c) the respective benefits to other parties to the transaction of entering into it; and (d) any other relevant matter." 13 Section 588FGA(1) provides in part: "This section applies if the Court makes an order under section 588FF against the Commissioner of Taxation because of the payment of an amount in respect of a liability under any of the following provisions of the Income Tax Assessment Act 1936 … or under a provision of Subdivision 16‑B in Schedule 1 to the Taxation Administration Act 1953." It is not necessary to set out the provisions of those Acts. The "liabilities" in question are commonly referred to as income tax withholding liabilities (ITW liabilities). 14 The other relevant parts of s 588FGA are: "(2) Each person who was a director of the company when the payment was made is liable to indemnify the Commissioner in respect of any loss or damage resulting from the order. … (4) The Court may, in the proceedings in which it made the order against the Commissioner, order a person to pay to the Commissioner an amount payable by the person under subsection (2)." 15 Section 588FGB(3) provides: "It is a defence if it is proved that, at the payment time, the person had reasonable grounds to expect, and did expect, that the company was solvent at that time and would remain solvent even if it made the payment."

Settlement between the liquidator and the commissioner 16 When the proceedings came on for hearing the primary judge was informed that the liquidator and the Commissioner had settled the claims as between themselves and had agreed upon the orders to be made. His Honour described the course he then took as to Scott and Fairbank as follows: "The Court can only make an order under s 588FF(1) if it is 'satisfied' that the relevant payment transactions are voidable under s 588FE. This means, inter alia, that the relevant transactions must be proven to be insolvent transactions and unfair preferences and/or uncommercial transactions. In this case, Scott and Fairbank wish to contest the claims that the relevant payments were transactions within the meaning of s 9, that they were unfair preferences or uncommercial transactions (as the case may be) within the meaning of ss 588FA and 588FB, and that the company was insolvent at the time when the relevant payments were made …. The authorities recognise that directors in the position of Scott and Fairbank should be able to contest the liquidator's claims against the Commissioner: see Crosbie v Commissioner of Taxation (2003) 130 FCR 275 at [4]-[7] (Crosbie) …. I made orders in each proceeding in the same form as those made by Finkelstein J in Crosbie. Specifically, I ordered that the third parties have leave to defend the plaintiff's claim against the Commissioner on terms that: (a) they each be bound by all decisions made in those actions; and (b) they each be treated as if parties to the action on any issue relating to costs …."

Primary judge's reasons 17 After setting out the case law on insolvency for the purposes of provisions such as s 588FC, the primary judge said there was "overwhelming evidence" to support the liquidator's opinion that TSI and TSIA were insolvent at all times from 1 July 1999 onwards and, in particular, during the six months relation back period ending 15 May 2003. 18 The primary judge rejected what he described as the nub of the defence advanced by Scott and Fairbank, both in answer to the liquidator's claim and in defence of the Commissioner's indemnity claims, namely that an agreement existed between Swift Securities and Investments Limited (Swift Malaysia) on the one hand and Trader Systems International Inc (TSI Inc), TSI and TSIA on the other, whereby Swift Malaysia would pay the debts of TSI and TSIA as and when they fell due. 19 His Honour then held that the liquidator had established that the payments alleged to be unfair preferences were 'transactions' for the purposes of s 588FA, that they were received by the Commissioner in his capacity as a creditor, and that each payment resulted in the Commissioner receiving in respect of an unsecured debt more than he would have received if he had proved for the debt in the winding up. The primary judge also held that each unfair preference payment was also an insolvent transaction within the meaning of s 588FC. 20 In the second proceeding the primary judge held that the payments made by TSIA to the Commissioner in discharge of TSI's tax liabilities were uncommercial transactions within the meaning of s 588FB(1). He said: "the payments in question … conferred no benefit on TSIA. Indeed, the payments conferred only detriments on TSIA in that they had the effect of increasing the outstanding liabilities of TSI to TSIA in circumstances where there was no prospect that TSI would be able to repay the advances." Because of TSIA's insolvency, the uncommercial transactions were also insolvent transactions. 21 On the Commissioner's indemnity claims the primary judge rejected the directors' contention that the Commissioner had not suffered loss or damage as a result of the order made against him under s 588FF. His Honour rejected the submission that the order simply involved unwinding preferential payments that the Commissioner had no entitlement to receive. He said: "By the order I propose to make in favour of the liquidator, the Commissioner will be required to repay amounts it received in payment of debts that were outstanding to the Commissioner. To the extent that those debts relate to ITW liabilities, an order requiring that the amounts in question be paid to the liquidator will cause loss or damage within the meaning of s 588FGA(2). Instead of retaining payments amounting to $29,260.82 in the case of TSI's ITW liabilities, and $107,329.99 in respect of ITW liabilities owed by TSIA, the Commissioner will have to prove in the winding up of TSI and TSIA respectively. As the liquidator said in evidence, unsecured creditors will not receive any distribution in the winding up of those companies. Consequently, the orders sought against the Commissioner will result in loss or damage." 22 The directors' submission that interest and costs paid by the Commissioner to the Registrar did not form part of the loss or damage flowing from the s 588FF orders was rejected. However his Honour adjusted the amount of interest to reflect the ratio of total tax payments recovered by the liquidator to the ITW tax payments that attracted the indemnity. 23 His Honour also rejected the directors' submission that any costs the Commissioner might be required to pay the liquidator pursuant to s 588FF should not attract indemnity under s 588FGA(2). In this connection, as in others, his Honour followed the decision of Byrne J in Superior Press Pty Ltd v Deputy Commissioner of Taxation (2004) 55 ATR 541 at [39]‑[40]. 24 His Honour then rejected the directors' expectation of solvency defence under s 588FGB(3). He did not accept their evidence that because of the financial support being provided by Swift Malaysia, they expected, and had reasonable grounds to expect, that the companies were solvent during the six month period ending 15 May 2003.

Scott's grounds of appeal 25 Scott pursued only one of the grounds appearing in his notice of appeal and supplementary notice of appeal. That is ground 5 in the former: "The learned judge erred in law in deciding that the third party Directors of the Company did not believe on reasonable grounds that the Company was solvent at the time the payments the subject of the claim for indemnity were made." 26 Scott does not appeal against the finding that at the date of the relevant payments the two companies were insolvent.

Fairbank's notice of cross appeal 27 Fairbank did not file a notice of appeal, but purportedly availed himself of the facility provided by Order 52 rule 22 of the Rules by filing a notice of cross appeal. The notice is however well out of time - some six months. Fairbank seeks an extension of time in which to file and serve the notice. 28 Fairbank's notice has four grounds: "1. The Liquidator having acknowledged that there was no requirement that the debts be paid 'from its own monies' (Lewis v Doran (2004) 208 ALR 385 …), failed to apply that decision when preparing his report on the companies' solvency and in particular for the relation back period. 2. The Liquidator did not determine what if any debts were due and payable during the relation back period and further relied on an artificial attributing of debts to that period by his staff …. 3. The Learned Judge failed to have regard or sufficient regard to the evidence of the monies being made available by Swift Securities & Investments Limited. 4. The Learned Judge erred in finding that the Third Respondent did not have a belief on reasonable grounds that the companies were solvent at the time the payments were made to the Second respondent during the relation back period." Ground 4 is the only one common to the appeal and cross appeal. Grounds 1 to 3 go to solvency, which is not in issue on Scott's appeal.

Insolvency 29 As we have said, Fairbank needs an extension of time in which to challenge the primary judge's insolvency holding. Because the viability of his grounds of appeal is relevant to that question, we will consider them at least to the extent of determining their viability. Because insolvency is the foundation for all the orders under appeal, it is convenient to deal with grounds 1 to 3 of Fairbank's cross appeal first. The first ground of appeal is that the liquidator did not in his report carry through his acceptance that there was no requirement that debts be paid from a company's own money. What was said by Palmer J in Lewis v Doran (2004) 208 ALR 385 at [116] was: "I conclude that s 95A of the CA has changed the pre-existing law as to the definition of insolvency as stated in cases such as Sandell v Porter, and that it is no longer necessary in order to assess solvency to ascertain whether the company is able to pay all of its debts 'from its own monies', in the sense discussed in those cases. In my opinion, s 95A requires the court to decide whether the company is able, as at the alleged date of insolvency, to pay all its debts as they become payable by reference to the commercial realities. If the court is satisfied that as a matter of commercial reality the company has a resource available to pay all its debts as they become payable then it will not matter that the resource is an unsecured borrowing or a voluntary extension of credit by another party." 30 In his report on TSIA the liquidator set out the methodology he used in reviewing insolvency. He noted that a surplus or deficiency of net assets is indicative, but not necessarily determinative, in establishing whether or not an entity is able to pay all its debts as and when they become due and payable. He then referred to other relevant matters to which he would have regard, including: "(vii) Evidence provided by two of TSIA's directors … (viii) Whether there was a history of equity holder, shareholders, related party and/or director financial support and the prospect of that support either commencing or continuing. (ix) Whether the entity had the capacity to borrow funds to meet liabilities. (x) Whether the entity could within a relatively short time raise funds from the sale of assets or raise capital to allow it to meet its liabilities which fell due and payable short of disposing of the assets that were necessary to enable TSIA to continue to carry on its business." 31 Under the heading "Nature of Operations" the liquidator noted that TSI and TSIA had directors and shareholders in common with Swift Malaysia, which had contributed funds to the two companies. In return, Swift Malaysia was to receive all shares in the two companies pursuant to an agreement dated 17 July 2002. At the date of the administration no shares had been issued to Swift Malaysia and all funding by it had ceased. Swift Malaysia had lodged a claim in the liquidation for $1,575,073. In discussing the directors' opinion as to insolvency, the liquidator referred to Fairbank's advice to him that TSIA's collapse was attributable to Swift Malaysia's failure to pay TSI's liabilities and other obligations pursuant to "its funding agreement", which is the 17 July 2002 agreement. The liquidator noted that the terms of the agreement did not appear to have been complied with in that Swift did not become a shareholder in TSIA. 32 The liquidator referred again to Swift Malaysia under the heading "Liquidator's Opinion": "TSIA's reliance on ongoing cash support from Swift placed the company in a high‑risk position. In an email dated 13 May 2003 from Mr Scott to Mr Bayoud …, the former was extremely concerned that 'the position in TSI here is not tenable anymore. We are unable to meet wages so cannot continue in the absence of a definitive plan to meet the current liabilities. Unless a definitive and positive plan of action is presented immediately, as Directors, we have no choice but to close the business'." 33 Under the heading "Cash Movements" the report noted TSIA's regular receipt of deposits from Swift Malaysia and Tricom Equities Ltd, the latter's deposits having been made on behalf of Swift. During the period May 2002 to June 2003 $856,048.29 was deposited. TSIA had relied on receiving funds from Swift Malaysia to maintain a credit balance at the bank and pay some of its creditors. 34 Under the heading "Alternative Sources of Finance - Borrowing Capacity" the liquidator repeated that between May 2002 and June 2003 Swift Malaysia had provided cash injections to deal with some of the cash flow problems of the business. However, despite depositing funds in TSIA's bank account, TSIA was unable to pay all of its creditors as and when they fell due. He concluded on this point: "One of the directors, Mr Fairbank, has advised the ultimate failure of TSIA, was due to a lack of ongoing cash support from Swift and that the lack of support resulted in the appointment of voluntary administrators. Based on the above, and the poor trading position of the Company, it would appear that TSIA was not in a good position to borrow more funds." 35 Under the sub‑heading "Sale of Assets" the liquidator noted that TSIA's assets had realised only $7383 to date, and that it was not in a position to raise funds from the sale of assets in the short term. 36 In presently relevant respects the liquidator's report on TSI is substantially the same, mutatis mutandis, as that on TSIA. What we have recorded at [30], all but one sentence in each of [31] and [34], and all except the dollar amount in [35] ($35,684) accurately reflects what appears in the TSI report. What we have recorded at [32] and [33] does not appear in the TSI report. The fourth sentence in [31] that is not in the TSI report is replaced by the statement that Swift Malaysia has not lodged a proof of debt, and that it appears in the records as a creditor for $467,895. The first sentence in [34] that is not the same in the TSI report is to the effect that during the period June 2002 to May 2003 TSIA "and potentially Swift" provided cash injections to deal with some of the cash flow problems of the business. The dollar amount in [35] is replaced by $35,684. 37 It is apparent from the above that the complaint in the first ground of the cross appeal is baseless. As the primary judge said, the nub of the directors' defence was the agreement that existed with Swift Malaysia whereby it would pay the bills of TSI and TSIA as and when they fell due. The liquidator was of the view that the agreement with Swift Malaysia was not to the effect alleged, that Swift Malaysia had stopped making funds available by June 2003, and that Fairbank attributed the companies' failure to this fact. 38 We have assessed the viability of the first ground of appeal in its own terms, that is by determining whether the liquidator erred as alleged. Even if he had, that would not assist Fairbank. The question on the appeal is not whether the liquidator's report contained deficiencies, but whether the primary judge erred. Plainly he did not err in the way in which the liquidator is said to have, and it is not alleged that he did. His Honour referred to the state of "insolvency" law before and after the introduction of s 95A of the Act and to the observations of the New South Wales Court of Appeal in Lewis v Doran (2005) 219 ALR 555 at [109]‑[110], upholding Palmer J's observations quoted at [30]. The vital point is that both the liquidator and the judge looked at whether funds from Swift Malaysia and external sources were available, and concluded they were not. This, according to what Fairbank told the liquidator, was the seat of the companies' problems. 39 Fairbank's second ground of cross appeal also lacks merit. First, as we have said in relation to the first ground, Fairbank needs to establish error on the part of the primary judge. This is not an appeal from the liquidator. Second, the evidence relied on does not establish that the liquidator did not "determine what if any debts were due and payable during the relation back period". What the liquidator said was that he had not personally checked the companies' records to see if there was any problem with the MYOB records. That had been done by his staff, who in his opinion were competent at their work. 40 Nor is there any merit in the complaint in the second ground that the liquidator relied on his staff's artificial attribution of debts to the relation back period. The liquidator was cross‑examined at length about the way in which the staff had treated duty claimed by the State Revenue Office. At the conclusion of that cross examination the primary judge said: "Mr Fairbank, I am really not being assisted by the debate. The position of Mr Duncan is clear, that there were outstanding debts to the State Revenue Office, including debts for penalty tax because returns weren't lodged and payments weren't made, and the accountants have simply … agreed those debts on a monthly basis on the predicate that if you are carrying on business and employing staff, payroll tax is, in reality, accruing day by day and ought to be provided for as a matter of good accounting. Now, you have pointed out that that is an accounting assumption, and the actual … assessments or notices might stipulate a date for payment. Now, I understand the difference between the two of you, but what you have to deal with ultimately by your own evidence is the fact that according to the proof of debt and the accountant's calculations, tax has been outstanding to the State Revenue Office right throughout the relevant period and it went unpaid. So that is a matter that you will have to address by your own evidence. … if you want to challenge the conclusions reached by Mr Duncan, the basis of which he has explained in answer to your questions, you may need to introduce your own evidence, and it may be that you need to get the notices or assessments that have issued by the State Revenue Office and tender them." 41 Fairbank did not adduce any such evidence, and the matter thus remained where the liquidator left it. The evidence did not establish that his staff artificially attributed debts to the relative bank period. Furthermore, Fairbank's extrapolation from the State Revenue Office's proof to debts generally is not justified. 42 The third ground of the cross appeal, that the primary judge did not have regard to the monies being made available to Swift Malaysia, is covered by what we have said about the first ground. Further, the primary judge expressly referred at [90] to Fairbank's affidavit of 10 March 2006, which is the basis for this ground, in which the sum of $461,554 is claimed to have been provided pursuant to the 17 July 2000 agreement with Swift Malaysia. His Honour did not accept that Swift Malaysia had provided funds pursuant to the agreement. His Honour said: "The evidence establishes that Swift Malaysia provided substantial advances from time to time to assist TSI and TSIA to meet pressing liabilities. I am satisfied that these were ad hoc loan arrangements between related companies. The funds provided by Swift Malaysia were recorded in the books of account of TSI and TSIA as loan funds. In his evidence, Scott said that the payments made by Swift Malaysia to TSI and TSIA were recorded as loans on the basis that the loans were to be repaid after research and development activities had been completed. This is not consistent with the proposition that the funds were provided as a matter of obligation under the terms of the July agreement. The funds were not provided by Swift Malaysia pursuant to any legally binding commitment enshrined in the July agreement or otherwise. I have given careful consideration to the evidence given by Scott and Fairbank. I carefully observed their demeanour when they were giving evidence. In my opinion, neither Scott nor Fairbank was a reliable or truthful witness. In the absence of corroborating evidence, I am not prepared to act on their assertions. In particular, I reject their evidence that Swift Malaysia was bound by the July agreement to provide funds to TSI and TSIA to enable those companies to discharge their liabilities as and when they arose. I am satisfied that Swift Malaysia never undertook any such obligation and, moreover, that it did not perform such an obligation." 43 No error has been shown in his Honour's construction or assessment of the meaning of the July agreement. As to his observations about the credit of the directors, he was in a position to make his assessment, and we do not have his advantage in that respect. Nothing has been said to suggest that we should, or could, differ from it.

Section 588FGB defence 44 The final ground of the cross appeal is the same as ground 5 of Scott's notice of appeal. The directors' case on the defence was that the existence of the July 2002 agreement had the effect that at the time of the various payments they had reasonable grounds to expect and did expect that Swift Malaysia would meet the companies' outstanding liabilities. Reliance was placed by Scott on his affidavit of 24 April 2006 in which he deposed that on 13 May 2003 (two days before the end of the six month relation back period) he was informed by Mr Bayoud of Swift Malaysia that it was no longer able to financially support TSI and TSIA. He informed Mr Bayoud that in the absence of any definite plan to meet the companies' current liabilities, the business would have to close down. On 14 May Mr Bayoud confirmed that he had no proposal to put, and Scott thereupon made arrangements to place the companies into administration. 45 Scott then deposed that until 13 May 2003, whenever he requested Swift Malaysia to pay any of TSI's or TSIA's liabilities, those payments were made and he had no reason to expect that they would not continue to be more than adequate to meet the trading debts of each company as and when they arose. He concluded by saying: "I expected and believed and had reasonable grounds to expect and believe that TSI and TSIA were solvent at all times during the relevant period and that after the payments that were made by and on behalf of those companies for the outstanding liabilities of TSI and TSIA that they would remain solvent after those payments were made." Fairbank's affidavit of 10 March 2006 is to the same effect. 46 The difficulty for the directors' is that the primary judge did not accept the evidence which is the foundation for their claim that they had reasonable grounds to expect, and did expect, that the companies were solvent at the relevant time. We have recorded in the second paragraph quoted at [42] his Honour's findings as to the directors' credit: neither was a reliable or truthful witness, and in the absence of corroboration he would not act on their assertions. There was no corroboration. When his Honour came to examine the s 588FGB defence, he referred to the affidavits the contents of which we have described at [44] and [45], and said it would be apparent from the findings he had already made that he did not accept what they claimed were their expectations. His Honour's disbelief of the directors' evidence was, as he said, based on his observation of their demeanour in giving evidence. Nothing that was put to us persuaded us that we could second guess the primary judge's conclusion on this issue. 47 At [116] to [120] of his judgment the primary judge set out a convincing assembly of reasons for his conclusion that the s 588FGB(3) defence was not made out. The content of those paragraphs is too lengthy to set out in full. So far as material to the Swift Malaysia point, it is as follows: "I am satisfied that Scott and Fairbank knew, during the relation back period, that TSI and TSIA were not able to pay their debts as and when they fell due. They both knew that payment arrangements had been entered into with the Commissioner and that those arrangements had not been complied with. They knew that funds had been advanced, ad hoc, by Swift Malaysia to enable TSI and TSIA to make payments to the Commissioner. But they also knew that the company was not able to pay other creditors as and when their debts fell due. … I am also satisfied that the financial support that was provided by Swift Malaysia did not provide Scott and Fairbank with reasonable grounds to expect that TSI and TSIA were solvent during the six months ending 15 May 2003, and that they would remain solvent even if they made the payments to the Commissioner with the support of Swift Malaysia. I refer to my earlier findings: the July agreement does not contain any obligation or undertaking by Swift Malaysia to provide funds to TSI and TSIA on a continuing basis to enable those companies to discharge their liabilities as and when they arose; and the funds actually advanced by Swift Malaysia and/or Swift Australia to TSI and TSIA were ad hoc loans and were not sufficient to enable either company to pay its debts as and when they fell due." 48 No error has been shown in his Honour's approach. This ground of appeal amounts to no more than a disagreement with the conclusion reached without any attack on the totality of the ingredients gathered together to compel that conclusion. 49 Scott's ground of appeal has not been made out, and the appeal must be dismissed. No explanation was offered by Fairbank as to why his notice of cross appeal was filed some six months out of time. Further, it is apparent from what we have said at [44] to [48], that were leave to be granted, the cross appeal would have no prospect of success. In those circumstances we will not grant an extension of time. The liquidator has submitted that he would be prejudiced by the grant of an extension. After the expiration of the time for appeal he came to an arrangement with Scott that he would not in his appeal challenge the declarations made or the orders for repayment by the Commissioner. On this basis it was submitted the liquidator distributed the amount repaid by the Commissioner. Thereafter Fairbank served his cross appeal out of time. In view of our conclusion as to Fairbank's prospects of success, it is unnecessary for us to deal with the liquidator's submission. I certify that the preceding forty-nine (49) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justices Sundberg, Emmett and Middleton.

Associate: Dated: 15 March 2007 Counsel for the Appellant: G Nash QC

Solicitor for the Appellant: Harding & Co Lawyers

Solicitor for the First Respondent: N Fryde of Dibbs Abbott Stillman

Counsel for the Second Respondent: PD Crutchfield

Solicitor for the Second Respondent: Australian Taxation Office Legal Service Branch

Date of Hearing: 2 March 2007

Date of Judgment: 15 March 2007