The insolvency of a company which is the trustee of a trust presents particular challenges for creditors, insolvency practitioners, and beneficiaries. A recent case in the WA Supreme Court provides a handy blueprint for analysing the issues that arise from insolvent trustee companies. It also offers an interesting solution to the problems which liquidators face in having to differentiate between trust and non-trust assets.
In January 2015 Winter Holdings (WA) Pty Ltd was placed into liquidation, as a result of a tax debt of $278,893.94.
Winter Holdings was, among other things, the trustee of the Laurus Arx Trust (the Trust) which was established in 2009. Winter Holdings, as trustee of the Trust, was in a partnership which operated a nightclub in Subiaco (the business).
In 2013 a company called Gold Limousines Pty Ltd (Gold) replaced Winter Holdings as the trustee of the Trust. However Winter Holdings continued to act as a partner in the business. This presented the liquidator with a number of thorny issues.
A company which is a trustee, or any trustee for that matter, has to be careful when dealing with trust assets. A trust is a legal relationship in which a trustee administers certain property on behalf of the beneficiaries of the trust. Although the trustee is the legal owner of that property, the trustee is obliged to use the property in the best interests of the beneficiaries and in accordance with the purposes for which the trust was established.
So a trustee can’t use trust assets for non-trust purposes. A trustee can use trust assets to repay itself for outlays and expenses incurred in administering the trust – this is known as a right of indemnity.
Beneficiaries can’t usually deny a trustee their right of indemnity. Indeed, the law recognises that trustees can assert a claim over trust property to enforce this right of indemnity, by way of an equitable lien or charge, although there is significant controversy in Australia about how this can be done.
A liquidator of a trustee company inherits the same issues. They can’t use trust assets to pay non-trust creditors, but they can claim the right of indemnity if, before or after liquidation, the company incurs expenses in administering the trust. Most importantly they can enforce the security which supports the right of indemnity if the beneficiaries don’t want to pay.
So it becomes critical to work out the capacity in which the insolvent company owns assets and incurs expenses, ie whether it does these things as trustee, or in its own right.
The problem for the liquidator of Winter Holdings was that the tax debt, which was the cause of his appointment, was incurred by Winter in its own right, not as trustee. So the tax debt couldn’t be paid from trust assets, as it wasn’t a trust debt. Furthermore, right up until it went into liquidation Winter Holdings had incurred substantial expenses in running the business, which was a trust asset, but it hadn’t been the trustee since 2013 when it was replaced by Gold.
When Gold replaced Winter Holdings as trustee of the Trust, it should have resulted in Gold becoming the partner in the business. However Winter Holdings had continued to hold the liquor license, the lease, the business name and continued to incur expenses in running the business. It had held itself out as the partner in the nightclub, despite no longer being trustee of the trust.
The court found that because Winter continued to operate the business, it continued to have a right to be indemnified by the trust for the expenses it incurred, and this represented a big win for the liquidator, who became entitled to exercise that right of indemnity against trust assets.
In the course of making this finding, the Acting Master produced an analysis of this complex area of insolvency law that was, with respect, particularly cogent and helpful – see paras 36 – 60.
Having established that the liquidator had a claim against the trust assets, the question then became how to enforce it.
There is a significant split in Australian law about how a trustee can recover costs and expenses after it has been replaced by a new trustee. Some cases say that the former trustee can hang on to trust assets and satisfy its right of indemnity out of those assets; other cases say that the old trustee must make its claim against the new trustee, after it has transferred all trust assets to them.
The controversy was resolved in this case because the Court found that Winter Holdings had continued to be a trustee for some purposes, because Gold had failed to take over the running of the business when it was appointed. Because Winter was still a “bare trustee” it could be authorised to sell trust assets to satisfy the debts it occurred in running the business.
The orders proposed by the Acting Master to give effect to these findings were as follows:
- The liquidator was appointed as the receiver over the property of the Trust on an interim basis for 90 days.
- The liquidator had to
- work out which of his expenses related to winding up the company in its own right, and which related to to the affairs of Winter Holdings as trustee; and
- provide Gold’s solicitors with a detailed estimate of the amount required to satisfy the indemnity, ie the amount required to reimburse Winter Holdings for the expenses it had incurred for trust purposes, up to the end of the receivership.
- Gold was given until the end of the interim receivership to pay this amount, upon which Winter was required to transfer the business and the other assets of the trust to Gold, as should have happened in 2013;
- If Gold failed to pay within 90 days, the liquidator was given the power, through the receivership, to sell as much of the assets of the Trust, including its interest in the partnership, to indemnify Winter Holdings, with everything left over to be paid to Gold.
The proposed orders provided an innovative solution to a complicated problem. The decision is, with respect, one that could be of considerable assistance to both insolvency practitioners and their advisors.
For more information on this update or any insolvency matter, please contact us on (08) 9321 3755.
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