TGIF 16 August 2019: Federal Court instructs that liquidators should appoint a receiver when dealing with an insolvent corporate trustee

This week’s TGIF considers the Federal Court decisions in Carrello, in the matter of Caneland Holdings Pty Ltd (in liq) [2019] FCA 1144, and Carrello, in the matter of Gembrook Investments Pty Ltd (in liq) [2019] FCA 1143.  The Court provided guidance as to how a liquidator of an insolvent corporate trustee should ensure payment of their remuneration and expenses out of trust assets. 

Background

Mr Giovanni Carrello was appointed as the liquidator of Gembrook Investments Pty Ltd (in liq) (Gembrook) which was the trustee of the Bailey Family Trust.  Mr Carrello was also appointed as the liquidator of Caneland Holdings Pty Ltd (in liq) (Caneland) which was the trustee of the Sutherland Family Trust.  Both Gembrook and Caneland had insufficient funds to pay creditor claims. 

Mr Carrello applied to the Court for orders authorising the distribution of the realised proceeds of the Bailey and Sutherland Family Trusts and recovered preferences to pay (in the following order):

1. his remuneration;
2. priority creditors in accordance with section 556 of the Corporations Act 2001 (Cth); and
3. ordinary unsecured creditors.  

It is a standard term of many trust deeds that the office of trustee is to be vacated upon a corporate trustee’s entry into liquidation or other insolvency event.  

However, in these matters, on the day before Mr Carrello’s appointment as liquidator of Gembrook, the terms of the Bailey Family Trust were amended so that trustee could not be removed by the appointor if a liquidator was appointed to the trustee (ie Gembrook).  It also provided that where a liquidator was appointed, all remuneration, fees, charges and expenses of the liquidation would be expenses properly incurred by the trustee in the administration of the trust and payable from the trust fund. 

Almost six months into Mr Carrello’s appointment as liquidator of Caneland, the Sutherland Family Trust deed was amended to permit the trustee to remain in office after the company entered into liquidation, until such time as the affairs of Caneland are wound up by its liquidator.  

The extent of the amendment power

The cases were heard together and the Court considered the extent of the power of amendment and questioned that power had been exercised in circumstances that would amount to a fraud on the power of amendment.   Justice Colvin referred to the decision in Mercanti v Mercanti [2016] WASCA 206, where President Buss concluded that the amendment power could only be exercised for the purpose for which it is conferred and not for any extraneous or ulterior purpose.[1] 

In both cases, the Court considered that the amendment power appeared to have been exercised in the interests of creditors rather than the beneficiaries of the trust.  The amendments were expressed in terms which suggested that their purpose was to enable the liquidator to realise trust assets, and then apply the proceeds to satisfy the trustee’s right of indemnity for trust liabilities out of trust assets.

Ultimately, the Court did not make a finding on this issue.   Both cases were heard ex parte, and there was no argument made to challenge the validity of the amendments.

The appropriate course

In considering how to best deal with the situation, the Court expressly stated that the appropriate course would have been for Mr Carrello to have applied to be appointed as a receiver in order to realise trust assets and apply the proceeds in the exercise of the trustee’s ‘lien’ or charge to secure its right of indemnity.  

Justice Colvin noted that if an insolvent trustee continues to administer a trust, this may result in a failure to properly consider whether the trustee has engaged in conduct which compromises its power to be exonerated out of trust assets.  When a trustee becomes insolvent and the trust is being administered in the interests of creditors rather than beneficiaries, this may give rise to conflicting interests. 

Ultimately, the Court authorised both the distribution of funds and the remuneration and expenses of Mr Carrello in the exercise of the Court’s power under section 90-15 of the Insolvency Practice Schedule (Corporations) 2016. His reasonable costs were for the benefit of the creditors and for that reason they were approved as proper costs of the liquidation.

However, the Court declined to allow the liquidator to recover his costs of the applications.  The Judge noted that if Mr Carrello had sought to be appointed as a receiver, the complexities of the applications would have been avoided and provision could have been made for all remuneration to be approved by creditors in the usual way. 

Key messages

These decisions provide clear guidance that when a liquidator is appointed to an insolvent corporate trustee, the Court’s recommended approach is for the liquidator to seek appointment as a receiver.  Liquidators should be wary of placing reliance upon quick-fix amendments to trust instruments when administering trusts in the course of their appointment.