Andrew Lacey
Managing Principal
Insolvency, Litigation and Dispute Resolution
Arbitrate or Adjudicate – do you still get a choice?
10 March, 2015
Prior to March 2017, any right to sue that comprised an asset of a bankrupt’s estate could only be litigated by the trustee of the bankrupt. The inability of a trustee to assign a bankrupt’s cause of action resulted in many such actions not being litigated due to factors such as a lack of resources. This position changed through the insertion into the Bankruptcy Act 1966 (Cth) in Schedule 2 of the Insolvency Practice Schedule (Bankruptcy), which expressly permits a trustee to assign to a third party any right to sue that is held by of a bankrupt estate (see section 100-5).
The Federal Court of Australia (Davies J) recently considered the obverse of the above situation, that is, the power of a trustee of a bankrupt’s estate to acquire on assignment a right to sue held by a third party, in the decision of Rambaldi v Meletsis, in the matter of Karas (Bankrupt) [2018] FCA 791.
Facts
In 2009 Tom Karas (the bankrupt) loaned money to a company of which he was the sole director and shareholder. The bankrupt took a mortgage over a property owned by the company as security for the loan.
In May 2011 the brother-in-law of the bankrupt, Mr Meletis, replaced the bankrupt as sole director and shareholder of the company.
In November 2011 the loan made by the bankrupt was discharged and the company sold the property to another company known as ‘Establishment 5’. The money received from the property sale was allegedly distributed to another company of which Mr Meletis was a director.
In 2013 Establishment 5 went into liquidation and Mr Karas was made bankrupt on 16 October 2015. Mr Rambaldi and Mr Yeo were appointed as trustees for Mr Karas’ estate (the trustees).
After conducting relevant investigations, the trustees formed the view that there was still a substantial sum owed by Establishment 5 to the bankrupt estate in respect of the discharged loan which the mortgage over the property had secured. The trustees also determined that the liquidator of Establishment 5 may have causes of action or claims in relation to the property sale and the payment or transfer of company monies to third parties from the sale proceeds, including for breach of directors’ duties by Mr Meletis (causes of action).
The liquidator advised that he could not investigate the circumstances of the property sale further as he was without funding and that he therefore intended to finalise the liquidation.
In September 2017, the liquidator assigned the causes of actions to the trustees for the sum of $25,000 with the approval of the company’s creditors.
Issues
After the trustees commenced proceedings against the bankrupt, Mr Meletis and others, some of the defendants challenged the validity of the assignment by applying for summary dismissal of the claims. The trustees also sought judicial advice that they had the power to acquire the assigned claims and that they were justified in doing so, as a proper exercise of their discretion in administering the bankrupt estate.
The defendants argued (amongst other things) that the assigned claims are not “property of the bankrupt” and that the assigned claims are not “property” within the meaning of that term as defined in s 5 of the Bankruptcy Act .
Outcome
The Court found that the causes of action comprised after-acquired property of the bankrupt, the trustees had the power to acquire the causes of action and that it was reasonable and appropriate to give the judicial advice that was sought.
Did the trustees have the power to acquire the causes of action from the liquidator?
The Court noted that but for the defendants’ contention that the assigned claims do not form part of the “property of the bankrupt”, it would have little hesitation in holding that the trustees were acting within the scope of their powers under section 134 of the Act in taking an assignment of the causes of action. Although section 134, which sets out a lengthy list of things that the trustee of a bankrupt’s estate may do, does not prescribe a specific power to acquire property, the powers contained in the section “are wide and expressed in general terms” and “are of sufficiently broad compass to include the power to acquire property where the trustee has formed the view that the acquisition is in the best interests of creditors and likely to maximise the return to creditors” (at [18]).
Can causes of actions acquired after the date of bankruptcy become ‘property of the bankrupt’?
Section 5 of the Bankruptcy Act defines the expression ‘property of the bankrupt’, which includes ‘the property divisible among the bankrupt’s creditors’. In turn the latter expression, pursuant to section 116(1), includes (underline added):
all property that belonged to, or was vested in, a bankrupt at the commencement of the bankruptcy, or has been acquired or is acquired by him or her, or has devolved or devolves on him or her, after the commencement of the bankruptcy and before his or her discharge.
See also section 58(6) of the Act which defines ‘after-acquired property, in relation to a bankrupt’.
The defendants argued that the assigned claims were not after-acquired property of the bankrupt because the causes of actions were acquired by the trustees, not the bankrupt. The Court gave this argument short thrift, holding that because the assigned claims were acquired by the trustees in their capacity as trustees of the bankrupt’s estate the right to sue on those claims is a chose in action of the bankrupt’s estate.
Are the assigned causes of action ‘property’ as defined in section 5 of the Act?
Section 5 of the Bankruptcy Act widely defines property as “real or personal property of every description, whether situate in Australia or elsewhere, and includes any estate, interest or profit, whether present or future, vested or contingent, arising out of or incident to any such real or personal property” (underline added)
It is well established that ‘property’ as defined in section 5 of the Act includes rights of action and any recoveries from the litigation.
The defendants argued however that the causes of action were not ‘property’ within the meaning of section 5 because causes of action assigned to the trustees did not ‘arise out of’ and were not an ‘incident’ of any property of the bankrupt.
The Court observed that this argument relied upon a narrow interpretation of the phrase “arising out of” which the legislation did not warrant. Rather, all that the expression requires is a causal connection, which was satisfied in the present case by the trustees using $25,000 of funds from the bankrupt’s estate to pay for the assigned claims.
Conclusion
The above decision confirms the breadth of the powers held by the trustee of a bankrupt’s estate and, specifically, confirms “the power to acquire property where the trustee has formed the view that the acquisition is in the best interests of creditors and likely to maximise the return to creditors”.
It was clear that the trustees’ claim against the bankrupt and the claims acquired by the trustees, derived from alleged wrongdoing to a third party company, all arose “out of the same factual substratum”. It was therefore quite straightforward for the Court to hold that the trustees had properly exercised their discretion to acquire the assigned claims.
