Where appellant owed separate and distinct debt by company, could it rely on the defence of set-off under s 553C(1) of Act against liquidator's claim for recovery of unfair preferences?

Metal Manufactures Pty Limited v Morton [2023] HCA 1 (8 February 2023)

Intro:-

Facts:-

Metal Manufactures Pty Limited ("the appellant") was paid $50,000 and $140,000 by MJ Woodman Electrical Contractors Pty Ltd, a company now in liquidation ("MJ Woodman"). Both payments were made within the six‑month period prior to the winding up of MJ Woodman ("the relation-back period"). The liquidator of MJ Woodman ("the first respondent") sought to recover both payments from the appellant under s 588FF(1)(a) of the Corporations Act 2001 (Cth) ("the Act") on the basis that each was an unfair preference under s 588FA of the Act. The appellant alleges, and the respondents concede, that MJ Woodman owes the appellant $194,727.23. This is a separate and distinct debt from the liability which is said to arise under s 588FF(1)(a). The appellant contends that it has, pursuant to s 553C of the Act, a right to set off its potential liability to repay the alleged unfair preferences against the separate debt owed to it.

Given that the separate debt exceeds the amount of the alleged unfair preferences, if the appellant could set off that debt under s 553C(1), the first respondent would not obtain an order for payment under s 588FF(1)(a). Accordingly, by an Amended Special Case, Derrington J reserved for consideration by the Full Court of the Federal Court the following question:

"Is statutory set-off, under s 553C(1) of the Corporations Act 2001 (Cth) ("Act"), available to the [appellant] in this proceeding against the [first respondent's] claim as liquidator for the recovery of an unfair preference under s 588FA of the Act?"

In a comprehensive set of reasons, the Full Court said that the question posed should be answered "No". In separate reasons, the Full Court also ordered that the issue of costs in the special case be remitted for determination by the docket judge. For the reasons which follow, the answer given by the Full Court was correct, the costs order should not be disturbed, and the costs of this appeal should be costs in the cause.

The statutory scheme

Whether a right of set-off is available requires consideration of the applicable statutory scheme.

Proof and ranking of claims

Division 6 of Pt 5.6 of Ch 5 of the Act deals with the proof and ranking of claims against the company. Section 553(1) is a key provision and is as follows:

"Subject to this Division and Division 8, in every winding up, all debts payable by, and all claims against, the company (present or future, certain or contingent, ascertained or sounding only in damages), being debts or claims the circumstances giving rise to which occurred before the relevant date, are admissible to proof against the company."

Section 553 creates an important cut-off date to determine what debts and claims are provable in the winding up. As Allsop CJ observed below, a critical feature of this provision is that it addresses only debts and claims against the company arising from "circumstances" which had occurred "before the relevant date". Here, the "relevant date" is the date when the winding up of a company is taken because of Div 1A of Pt 5.6 of the Act to have begun. The breadth of the language of s 553 is noteworthy. It extends to all debts payable by and all claims against the company, whether "present or future, certain or contingent, ascertained or sounding only in damages", which arise from "circumstances" before the commencement of the winding up. In contrast, s 82 of the Bankruptcy Act 1966 (Cth), which addresses debts provable in bankruptcy, is limited to debts to which the bankrupt was subject as at the date of bankruptcy, or to which he or she may become subject "by reason of an obligation incurred before the date of the bankruptcy".

The purpose of s 553 is important. As Campbell JA observed in BE Aust WD Pty Ltd v Sutton, s 553 ensures that all legal obligations to which a company is subject are ascertained and then valued "at a common date", so that they can be taken into account in the winding up. Critically, and subject to one possible exception, no debt or claim arising from circumstances arising after the commencement of the winding up of the company is admissible to proof against the company in the liquidation.

Section 555 of the Act provides for the distribution of the assets of the company in accordance with the pari passu principle. It provides that, except as otherwise provided, all debts and claims proved in a winding up rank equally, and that if the property of the company is insufficient to meet such debts and claims, they must be paid proportionately. Many of the exceptions to this principle are set out in s 556 of the Act, which lists a series of payments to be made in priority to all unsecured debts and claims. These include: certain of the liquidator's expenses; the costs of the application for the winding up order; certain amounts owing to employees of the company before the date of winding up; and certain retrenchment payments payable to employees of the company.

Set-off

Section 553C of the Act confers the right of set-off relied upon by the appellant. It should be set out in full:

"Insolvent companies – mutual credit and set-off

(1) Subject to subsection (2), where there have been mutual credits, mutual debts or other mutual dealings between an insolvent company that is being wound up and a person who wants to have a debt or claim admitted against the company:
(a) an account is to be taken of what is due from the one party to the other in respect of those mutual dealings; and

(b) the sum due from the one party is to be set off against any sum due from the other party; and

(c) only the balance of the account is admissible to proof against the company, or is payable to the company, as the case may be.

(2) A person is not entitled under this section to claim the benefit of a set-off if, at the time of giving credit to the company, or at the time of receiving credit from the company, the person had notice of the fact that the company was insolvent."

Voidable transactions

Division 2 of Pt 5.7B of Ch 5 of the Act deals with voidable transactions. The relevant operative provision is s 588FF when read with a series of definitional provisions. It relevantly provides as follows:

"Courts may make orders about voidable transactions

(1) 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;
...

(3) An application under subsection (1) may only be made:

(a) during the period beginning on the relation‑back day and ending:

(i) 3 years after the relation‑back day; or

(ii) 12 months after the first appointment of a liquidator in relation to the winding up of the company;
whichever is the later; or

(b) within such longer period as the Court orders on an application under this paragraph made by the liquidator during the paragraph (a) period.

..."

The liquidator's right to seek recovery pursuant to s 588FF of an unfair preference is part of the statutory scheme of liquidation concerned with maximising the distributable pool of assets. It is thus "in the nature of a corollary" to that scheme, including the provisions which prescribe the order of priorities to be observed by the liquidator in the application of the company's property. It is directed at ensuring that the administration of the company is not distorted by putting a debt "ahead of the place appropriate to it in the prescribed order". In this way, the provision achieves its primary objective of "securing equality of distribution amongst creditors of the same class".

Key features of the statutory scheme

Five features of the foregoing statutory scheme of liquidation should be emphasised.

First, the liquidator is given power and responsibility to identify and gather in the assets of the company for distribution to creditors and contributories. Secondly, the liquidator is also obliged to distribute those assets by the making of priority payments and then on a pari passu basis by paying creditors and contributories. Thirdly, a bright line is drawn to enable the liquidator to determine what debts are payable by the company and what claims must be met against it; here it is those arising from "circumstances" which existed "before" the date of winding up. Fourthly, in aid of the duty to gather in the assets of the company, the liquidator may recover preference payments as a debt owed to the company. Finally, in determining what debts are payable and what claims must be met, a set-off must take place between what is due as between the company and another person arising from "mutual credits, mutual debts or other mutual

The appellant's case

The appellant submitted that it was entitled to set off its potential liability said to arise under s 588FF(1)(a) against amounts owing to it by MJ Woodman because there had been a mutual dealing between it and that company. That mutual dealing was said to include the trading transactions which had taken place during the relation-back period for which the appellant had been paid by MJ Woodman – the alleged unfair preferences. The liability under s 588FF(1)(a) will arise because of those voidable transactions; when this liability crystallises, it was said, an account will therefore need to be taken of it as against the remaining amount owed to the appellant for the purposes of s 553C(1). The appellant, in that respect, emphasised that its future liability under s 588FF(1)(a) was no different to any other claim owed to the company precisely because, for the reasons given in Linter Textiles, when it is paid, the company will receive it beneficially.

It was said that it did not matter that, as at the date of the commencement of the winding up, that liability had not yet sprung into existence. It was sufficient, the appellant submitted, that it existed as a contingent liability which might in the future mature into an actual present liability. Relevantly, the essential contingencies were said to be the bringing of an action by the liquidator under s 588FF(1) and the court's satisfaction that there had been a voidable transaction for the purposes of s 588FE of the Act which justified an order obliging the appellant to pay MJ Woodman. All of the facts necessary to make good those contingencies, including satisfaction of ss 588FE, 588FC and 588FA, existed as at the date the company was wound up.

Issue:-

Is statutory set-off, under Section 553C(1) of the Corporations Act 2001 (Cth) ("Act"), available to the [appellant] in this proceeding against the [first respondent's] claim as liquidator for the recovery of an unfair preference under s 588FA of the Act?

Consideration:-

Mutual credits, mutual debts and mutual dealings

The appellant's case turned upon the presence as at the date of the commencement of the winding up of an inchoate or contingent right to sue under s 588FF(1) which was capable of growing or maturing into a money claim that could then be set off against the amount owed by MJ Woodman to it. That proposition suffers from a fatal flaw. Construed in the context of the statutory scheme of liquidation, s 553C(1) requires that the mutual credits, mutual debts or other mutual dealings be credits, debts or dealings arising from circumstances that subsisted in some way or form before the commencement of the winding up. That is because under that statutory scheme, s 553C exists in aid of s 553, which is concerned with debts and claims, whether "present or future, certain or contingent, ascertained or sounding only in damages", arising from "circumstances" that had occurred before the commencement of the winding up. That is why s 553C(1) refers to a "person who wants to have a debt or claim admitted against the company" and then provides that only the balance of any set-off is "admissible to proof against the company, or is payable to the company, as the case may be". As such, the function and purpose of s 553C is to permit a reckoning of amounts owing to and by the company during the relation-back period prior to the appointment of the liquidator.

Here, immediately before the commencement of the winding up there was nothing to set off as between the appellant and MJ Woodman; the company owed money to the appellant, but the appellant owed nothing to the company. Moreover, the inchoate or contingent capacity held by the liquidator to sue under s 588FF could not and did not exist before then. It could only be made following the commencement of the winding up. It was wholly "new" in the sense described by Dixon J in Hiley. It sprang into existence as a specific statutory right held by the liquidator for the purposes of recovering preference payments to secure the equitable distribution of assets amongst creditors. As such, it was not eligible to be set off against the pre-existing amount owed to the appellant.

It follows that the appellant could not identify a relevant mutual dealing. Contrary to its contentions, neither the trade transactions which were undischarged by MJ Woodman during the relation-back period nor, for the reasons already expressed, the discharged trade transactions (giving rise to the liabilities of $50,000 and $140,000), together with the liability which may arise under s 588FF(1)(a), were mutual dealings. Section 553C(1), correctly construed, does not address dealings which straddle the period before and after the commencement of the winding up.

Conclusion

For these reasons, the appeal should be dismissed, with costs in the cause.