Insolvent trading trusts – a note of caution for creditors

Written on the 17th of February 2010 by Warren Jiear

In a decision delivered on 16 February 2010, the Supreme Court of Queensland had to consider the position of a corporate trustee of a trading trust (which had been through a deed of company arrangement) and whether a creditor who would ordinarily be unsecured was in fact secured.

The decision is Adams v Zen 28 & Ors (2010) QSC 36. Hynes Lawyers represented the respondents in these proceedings. By way of background, the applicant, Mr Adams had a judgment debt obtained under the Building and Construction Industry Payment Act (which has previously been discussed in detail throughout our recent newsletters). The debtor company was placed in voluntary administration on 10 February 2009 and a deed of company arrangement (‘DOCA’) was approved by 17 March 2009. Adams (the applicant) did not vote in favour of the DOCA, but had lodged a proof of debt with the administrators in the sum of around $380,000. A dividend was paid to him in the sum of around $9,700 in June of 2009.

The applicant argued that as the company was a trustee of a trading trust, he was a secured creditor.

The applicant argued that:

• the company had incurred the debt as trustee of the trust;
• the company had a right of indemnity as trustee out of the assets of the trust;
• the company had a lien or charge over the trust asserts to enforce its right of indemnity; and
• he was entitled to be subrogated to (ie stand in the place of) Zen 28’s right of indemnity as trustee to the extent of the debt incurred in discharging the duties of the company as trustee.

If so, this could have meant that pursuant to 444D(2) of the Corporations Act, he was not bound by the DOCA and it did not affect his right to deal with security over property owned by the company, namely land. If the argument was correct, the land would have stood charged as security for the judgment debt. We argued that the DOCA bound the creditor discharging the debt and in fact, even if he was secured (and he wasn’t), as the applicant had banked the dividend cheque, he had released his security.

The court found that the applicant was unsecured and bound by the DOCA, with the consequence that the debt was extinguished. He therefore had no equitable interest in the trust assets or equity and therefore had no priority over other creditors. As a result, the claim against the company and the beneficiaries of the trust failed.

The court found that had the applicant obtained subrogation orders before the administration, he may have been secured. Clearly the area will attract further attention in the near future.

With the prevalence of trading trusts, the issue of the liability of beneficiaries and the permissible scope of DOCAs is an issue that will arise with increasing regularity. Our commercial recovery and restructuring team can assist in all aspects of this area.