What is the Status of a Trust when a Corporate Trustee goes into Liquidation?

Estimated reading time: 6 minutes Company liquidation, Asset protection

What happens when a corporate trustee of a trading trust goes into liquidation? Here we look at the current state of the law and the uncertainty around the power of liquidators in this situation.

What is the Status of a Trust when a Corporate Trustee goes into Liquidation?

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When a regular company goes into liquidation, the liquidator takes possession of any company property and has broad powers to deal with that property — including a power of sale. But what happens where a corporate trustee of a trading trust goes into liquidation? Here we look at the current state of the law and the uncertainty around the power of liquidators in this situation. 

Definition of a Trading Trust and the Role of the Corporate Trustee

The trading trust is an extremely common business structure in Australia and New Zealand. This is primarily due to the tax benefits and perceived asset protection provided by these arrangements. 

A trust at its core is a legal device that separates the legal and equitable ownership of assets. This means that certain individuals (the ‘trustees’) are legal owners of the trust property but must deal with those assets for the benefit of some other specified individuals (the ‘beneficiaries’).  

Most commonly a trading trust is a discretionary trust (assets are distributed at the discretion of the trustee), with a company appointed as trustee (the ‘corporate trustee’ or ‘trustee company’).  The names of the trustees and beneficiaries, their powers and duties and the specifics of the trust property are usually set out in a ‘trust deed’ when the trust is established. 

From a creditor’s perspective, contracts entered into with a corporate trustee may provide less certainty around the assets that will be available for distribution in the case of insolvency. 

For more information read Trading Trusts — The Complete Guide

Consequence of Liquidator Appointment in Insolvency

What happens when the corporate trustee of a trading trust is insolvent and a liquidator is appointed? Under section 474(1) of the Corporations Act 2001 (Cth), the liquidator takes custody and control of all property that the company is, or appears to be entitled to. 

In addition, under section 477 of the Corporations Act 2001 (Cth), the liquidator acquires all the powers of the company, including the power to “sell or otherwise dispose of, in any manner, all or any part of the property of the company”. 

It is through these powers that the liquidator would presumably be able to sell trust property, just as a trustee would, in order to distribute assets to creditors in a winding up. But as we shall see below, this presumption could be unwarranted. 

It is worth noting that prudent directors will often use their powers of appointment before winding up to ensure that they retain control of the company’s assets. 

Impact of the Trust Deed

The legal position of the liquidator with respect to trust assets can be complicated by the terms of the trust deed. Most trust deeds provide for a power of ‘trustee ejection’ on the occurrence of an insolvency event (such as the appointment of a liquidator). This means that the corporate trustee becomes a ‘bare trustee’, losing most of the powers of a trustee while retaining title to trust assets and a duty to preserve those assets.

This is one way in which the beneficiaries of the trust (who are often directors of the trustee company) can attempt to protect the assets of the trust from creditors.

One clear right that the bare trustee retains is the ‘right of indemnity’ or ‘right of exoneration’: This is the right of the trustee to use trust assets to indemnify themselves for the expense of administering the trust. This right is said to create an ‘equitable lien’ or ‘equitable charge’ over the trust’s assets. 

On the appointment of the liquidator, this right of indemnity will transfer from the former trustee to the liquidator. 

Does the Liquidator Have a Power of Sale?

The question remains, does the right of indemnity that passes to the liquidator provide a power to sell trust assets? Is there some other way in which the liquidator might have the power to sell or deal in trust assets? From the liquidator’s perspective, a power of sale is often seen as crucial in collecting the debtor company’s assets for distribution. 

We consider several possibilities below: 

  • Power of sale is enabled by the trust deed. In Apostolou v VA Corporation Aust Pty Ltd [2010] FCA 64, the court suggested that a power of sale for the liquidator could simply proceed from the presence of such a power in the trading trust deed. As long as the trustee has legal title to the property, a power of sale and the right of indemnity, the liquidator would be entitled to sell trust assets for the purpose of exercising that right. Many have questioned the validity of this argument (see for example Andrew Berriman, ‘The Consequences of a Corporate Trustee Entering Insolvency’ (2017) 25(2) Insolvency Law Journal 59).
  • Power of sale is provided in section 477 of the Corporations Act 2001 (Cth). Apostolou also held that that the broad wording of section 477 allows for a power of sale with respect to any property in which the company has an equitable interest, as long as the trustee had legal title to that property. This is the basis on which the liquidator was permitted to sell trust assets in that case.
  • Power of sale is enabled by court appointment as a receiver and manager. In Stansfield DIY Wealth Pty Ltd (in liquidation) [2014] NSWSC 1484, the New South Wales Supreme Court declined to follow the reasoning in Apostolou. The court determined that the trust property was not “property of the company” for the purposes of section 77, as only the right of exoneration, not the trust assets themselves, remain under the control of the bare trustee. Therefore the liquidator only acquires the ability to sell this right, not the underlying trust property. Sale of trust property would require applying to the court for appointment as a ‘receiver and manager’.
  • Power of sale exists under trustee legislation in Queensland and Western Australia. Both these Acts (the Trusts Act 1973 (Qld) and the Trustees Act 1962 (WA)) provide a general power of sale, which expressly persists, notwithstanding what is in the trust deed. In Fulkoto Pty Ltd (in liquidation) [2013] FCA 595, sections 31 and 32 of the Queensland legislation were found to permit the liquidator to sell trust assets without application to the court.
  • Applying to the court for ‘advantageous dealings’. Under state and territory trusts legislation, the court can award a specific power of sale to a liquidator by application to the court. See for example section 81 of the Trustee Act 1925 (NSW) (equivalent provisions apply in the trusts legislation of all other states and territories). This was successfully used by a liquidator to acquire a power of sale in the Victorian case of Caterpillar Financial Australia Ltd v Ovens Nominees Pty Ltd [2011] FCA 677. 

Conclusion 

The insolvency of the corporate trustee in control of a trading trust presents a problem for liquidators. While there are several possible avenues under the law, it is not always clear whether the liquidator has the power to sell trust assets in the process of winding up the company. Given a current lack of clarity in the legal situation, it may be prudent for liquidators to make an application to the court before disposing of trust assets in a trading trust.

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What is the Running Account Defence to an Unfair Preference Claim?

Estimated reading time: 0 minutes

In insolvency, a liquidator sometimes seeks to recover money from a creditor on the grounds that the creditor has received an ‘unfair preference’ in a payment from the debtor company. Here we explain how the ‘running account’ principle can be used by a creditor to push back against a liquidator’s claim of unfair preference.