Dimos, Leo t/as Leo Dimos & Associates v Dikeakos Nominess Pty Ltd

[1995] FCA 1088

IN THE FEDERAL COURT OF AUSTRALIA

VICTORIA DISTRICT REGISTRY       No VG 3394 of 1995

GENERAL DIVISION

B E T W E E N :

LEO DIMOS TRADING AS LEO DIMOS & ASSOCIATES
  Applicant

A N D :

DIKEAKOS NOMINEES PTY LTD
  Respondent

COURT:    NORTHROP J

PLACE:    MELBOURNE

DATE:     4 DECEMBER 1995

REASONS FOR JUDGMENT

The applicant has brought this proceeding under section 459P of the Corporations Law seeking an order that the respondent, the company, be wound up in insolvency. Section 459A confers jurisdiction on this Court to make an order that an insolvent company be wound up on an application under section 459P. Section 459C refers to certain presumptions that apply for the purposes of an application under section 459P. Subsection 459C(2) provides:

"(2) The Court must presume that the company is insolvent if, during or after the three months ending on the day when the application was made:

(a)the company failed (as defined by section 459F) to comply with a statutory demand; or ... "

I need not read out the other paragraphs to that subsection. Subsection 459C(3) provides:

"(3) A presumption for which this section provides operates except so far as the contrary is proved for the purposes of the application."

PART 5.4 of the Corporations Law provides for a fairly simple and straightforward method for the winding up of insolvent companies. However many difficulties may arise in construing and applying the relevant provisions of the PART. Division 2 of PART 5.4 empowers a creditor of a company to serve on the company a demand, called a statutory demand, in conformity with section 459E. Under the provisions of Division 3 of PART 5.4 the company may apply to the Court for an order setting aside a statutory demand see, sections 459G and 459H. Where such an order is made the statutory demand has no effect. The effect which flows from that is that there is no presumption arising that the company is insolvent under section 459C.

In the present case the applicants, who are a firm of solicitors, served a statutory demand for the sum of $16,727.79 upon the company on 13 May 1995. The company disputes the amount of the claim being made by the applicant but for reasons which are not presently relevant, it failed to apply to the Court for an order setting aside the demand relying upon subsection 459H(1). As a result, upon the expiration of the time referred to in the notice, the company was presumed to be insolvent on 21 June 1995. See section 459C.

On 24 July 1995 the applicants issued this application
under section 459P. By an amended notice dated 10 November 1995 the company, in conformity with Order 71 rule 37.11 of the Federal Court Rules, gave notice of the grounds of its opposition to the making of the orders sought by the applicants. The essence of its opposition is that it is, and always has been, solvent and is able to pay its debts when they fall due: see section 95A of the Corporations Law which provides as follows:

"95A  (1) A person is solvent if, and only if, the person is able to pay all the person's debts, as and when they become due and payable.

(2)  A person who is not solvent is insolvent."

The company has the shifting onus of proof to rebut the presumption arising under section 459C of the Corporations Law.  It must prove it is solvent, or in other words, that it is able to pay all its debts as and when they become due and payable.  The material before the Court shows that the company was incorporated in 1981 as a company limited by shares and is an exempt proprietary company.  It has a share capital of $2 that is two $1 shares.  It is controlled by members of the Dikeakos Family and is a trustee under a trust deed dated 20 December 1994.  The only assets in the name of the company are held on trust under the terms of the trust deed.  It has no beneficial interest in any property in its name.  Real estate is registered in its name, the main one being in Blyth Street, Brunswick.  It is also noted that the company holds property in trust for the family trust of the Dikeakos family and that in addition to the Blyth Street premises there are other
properties which are unencumbered but at the moment the sale or the transfer of those properties to the trustee company, the family trust company, are subject to orders of this Court, but the value of those properties is of the order $600,000.

The Blyth Street premises are subject to mortgage as security for moneys borrowed from a bank.  The company conducts bank accounts.  It receives rental money under leases of land held by it but it has no beneficial interest in any of the moneys received by it.  It holds all property vested in it on trust for the benefit of the beneficiaries under the trust deed, that is the Dikeakos Family Trust, and clause 7 of the trust deed contains an indemnity provision in favour of the company.  The relevant part of clause 7 is as follows:

"7.The Trustee shall in addition to the powers otherwise conferred upon the Trustees by law have the following powers.

(a)  ...

(g)To pay out of the Trust Fund or the income thereof all costs charges and expenses incidental to the management of the Trust Fund or to the exercise of any power authority or discretion herein contained or on carrying out or performing the trusts hereof which the Trustees may at any time incur including all income tax or other taxes payable in respect of the Trust Fund costs in any way connected with the preparation and execution of these presents and all moneys which the Trustees may be required to pay as stamp or revenue duties including stamp or settlement duties payable in respect of the Trust Fund."

The clause is a typical indemnity provision commonly found in trust deeds of this kind.  It is also noted that, as appeared from evidence given during the course of the hearing, there is an overdraft to another bank of about $2000 or maybe $7000.  There are inter-company loans to an amount of about $137,000 between the various companies but for present purposes it is sufficient to say that the company has no beneficial interests in any of the property in its name and in particular the Blyth Street property which I will come back to and deal with in a bit more detail later.

In submissions at the hearing of this matter when it first came on for hearing on 17 November, counsel for the company  relied upon opinions expressed in Sandell v Porter (1966) 115 CLR 666. There, the High Court had to determine the construction and application of the words "Any person unable to pay his debts as they become due from his own money" appearing in section 95 of the Bankruptcy Act 1924-1950 in relation to avoidance of preferences by a bankrupt. The wording of that provision is very similar to the wording of section 95A of the Corporations Law but it does include the phrase "from his own money" which does not appear in section 95A of the Corporations Law.  The Chief Justice gave the leading judgment and in this regard his views were agreed to by the other two members of the Court, McTiernan and Windeyer JJ.  At page 670 his Honour said:

"An essential step in making out that a payment is a preference within s95 is to establish by evidence to the satisfaction of the Court that the payer was at the time of the payment insolvent. Insolvency is expressed in s95 as an inability to pay debts as they fall due out of the debtor's own money. But the debtor's own moneys are not limited to his cash resources immediately available. They extend to moneys which he can procure by realization by sale or by mortgage or pledge of his assets within a relevantly short time - relative to the nature and amount of the debts and to the circumstances, including the nature of the business, of the debtor. The conclusion of insolvency ought to be clear from a consideration of the debtor's financial position in its entirety and generally speaking ought not to be drawn simply from evidence of a temporary lack of liquidity. It is a debtor's inability, utilizing such cash resources as he has or can command through the use of his assets, to meet his debts as they fall due which indicates insolvency. Whether that state of affairs has arrived is a question for the Court and not one as to which expert evidence may be given in terms though no doubt experts may speak as to the likelihood of any of the debtor's assets or capacities yielding ready cash in sufficient time to meet the debts as they fall due."

This statement of principle is not directly applicable to the facts of this case.  This can be illustrated by what was said by Bowen, CJ in Equity, in the Supreme Court of New South Wales in Re Timbatec Pty Limited and Companies Act (1974) 4 ALR 12 at 17-18 where his Honour considered the opinion expressed by Barwick CJ in Sandell v Porter.  It is interesting to note that in that case Bowen CJ found that the company was not solvent.

In the present case the company has no beneficial interest in any assets. It does not seek time to realise assets. The issue raised in the present case flows from the fact that the company disputes the amount of the claim made by the applicant and thus refuses to pay it. It is noted that there is no judgment in favour of the applicant against the company and it is not for this Court to determine whether in fact that amount is owing or not. What has occurred is that the company failed to make an application under Division 3 of PART 5.4 of the Corporations Law on the ground that there was a genuine dispute between the company and the applicant about the existence or amount of the debt to which the demand related; see section 459H.  As a result the presumption of insolvency arose.  In the circumstances, section 459S has no application since the quantum of the debt is not relevant to the issue of the solvency of the company.  The company does not rely upon the amount of the debt in any way as affecting its solvency.  The issue is whether the right of indemnity of the company, either by reason of clause 7 of the Trust Deed or by reason of general principles of law, is sufficient to establish the company is solvent.

On the material before it, the Court is satisfied that the beneficiaries under the Trust Deed have the capacity to pay the amount of the debt claimed by the applicant and that the company, relying on the indemnity clause, is able to pay the debt claimed by the applicant.

When the matter first came on for hearing on 17 November 1995, counsel for the parties were not in a position to argue this issue so the further hearing was adjourned to today, 4 December 1995, for further hearing. That date is within the six months period referred to in section 459R of the Corporations Law.  This morning the Court has received much assistance from counsel in submissions on the issue which calls for determination.  In this regard, counsel for the company has referred to other authorities, apart from the two to which he referred to on the previous hearing.  He referred to what was said by Menhennit J in the case of Calzaturificio Zenith Pty Limited (In Liquidation) v New South Wales Leather and Trading Company Pty Limited (1970) VR 605 at 608-9 where his Honour, in considering the meaning of the phrase "an inability to pay its debts" and after referring to Sandell v Porter, said:

" ... merely to take a balance sheet which puts opposite each other book debts and creditors' liabilities as if they were to be equated is, in my view, erroneous.  It would be necessary to make an appropriate calculation to decide when the creditors had to be paid and when the debts were likely to be received in order to decide whether at any particular moment in time the company was or was not able to pay its debts as they fell due."

In the present case, the Court has to determine whether the company has established that it is solvent in the sense defined in section 95A of the Corporations Law.  To a large extent the expressions of opinion in the case heard by Menhennit J, and also by the High Court in Sandell v Porter, and by the Supreme Court of New South Wales in Timbatec Pty Limited, are not directly relevant to the present case, but they do go to show what is meant by solvency, which is not limited to comparing the assets and liabilities of a company, but go to the question of the capacity of the company to pay debts as and when they become due.  The capacity to pay a debt when it is being disputed, as in the present case, would be tested if action were taken and the applicant were to obtain a judgment debt.  In those circumstances, would the company be able to pay the debt.  This is in circumstances where the company has no assets of its own, but holds assets in trust for persons in the circumstances already referred to.  This raises immediately the question which concerned the Court on the first hearing as to the nature of the right of a trustee to be reimbursed for liabilities incurred in administering trust property.  There is much authority on this issue.  Reference is made to the text Ford and Austin's Principles of Corporations Law, 7th Edition, at page 765, and I quote:

"The test relates to liquidity because the legislation is concerned with the failure of a unit in a trading environment.  The basic question is whether the company's business is viable.  A balance sheet does not answer that question.  Although it shows a company's assets and liabilities at a particular time, it does not show the viability of the company's business by reference to ability to trade.  A company may have an excess of assets over liabilities, but its assets may not be readily realisable for payment of debts as they fall due.  An example is land held by a real estate development company when the real estate market is depressed.  Moreover, some non-current assets in a balance sheet may be of problematical value.

Under Australian case law, proof that a creditor's debt has not been paid standing alone does not establish insolvency. The section 95A test requires ascertainment of the company's existing debts, its debts within the near future, the date each will be due for payment, the company's present and expected cash resources, and the date each item will be received. The court's task is to decide whether the company is suffering from a temporary lack of liquidity, in which case it is not insolvent."

(Quotation not checked)

That passage takes the matter no further than the views expressed by Sir Garfield Barwick in Sandell v Porter, and in the other authorities.  But it is a useful passage, having regard to the facts of this case, where it must be remembered that at the moment there is no judgment debt in existence.  A claim has been made for payment of a debt.  The amount of that
debt is being disputed.  The applicant, instead of suing for the debt, has sought the winding up of the company in circumstances where the company has failed to take steps to have the statutory demand set aside and therefore is presumed to be insolvent.

The values which have been given in the present case are in relation to the Blythe Street premises  The value of the land is about $95,000.  There is a mortgage on the land of about $51,000.  An advance could be obtained, if necessary, on the security of that land for a further $20,000.  In addition to that there is an overdraft, and in the circumstances, even if it were $7000, and leaving aside for the moment the inter-company debts, there is still sufficient to show that if the worst came to the worst, the company could pay the amount claimed by the applicant.  But in addition to that there are the other properties of the various beneficiaries, even though there may be the inter-company loans owing.  But as I said before, I am satisfied that on the evidence before the Court there is an ability to pay those debts as they became due and payable.  But that is not the question in the present case.  What must be decided is the legal position of the trustee, the company, having regard to the law in relation to a trustee seeking indemnity from the assets held by it in trust for beneficiaries.  In the present case, as I said, the company acts as trustee for the George Dikeakos Family Trust, and it is in those circumstances that the principles of law must be considered.  Solvency relates to liquidity, as it is said, or, putting it another way, relates to an ability to pay debts when they become due.  The mere fact of a refusal to pay a debt does not of itself prove insolvency.

At general law, the position is quite clear that a trustee derives an authority to use trust funds in cases of a trust, to pay debts incurred in administering the trust.  One source is the Trustee Act 1958 (Vic), section 36(2) of which provides that a trustee may reimburse himself, or pay or discharge out of that trust premises, all expenses incurred in or about the execution of the trusts or powers. In the present case there is no asset of the company which can be used to pay the amount, so the payment must be had from trust moneys or property. There is no present cash from which those moneys can be paid, if they were to be paid. But at the same time, as I have said, if the company did decide to pay them, it could receive reimbursement of that amount from the beneficiaries. I see no reason to suggest that it could not, if it so desired, pay the amount of the claim by the applicant. In addition, the company has a right of indemnity conferred by clause 7(g) of the Trust Deed, but this takes the matter no further, really, except it sets out in a formal way the rights of the company.

The general principle is set out again in Ford and Lee's Principles of the Law of Trusts, 2nd Edition, at page 627, a principle of law which is well understood and applied, and I quote:

"A trustee is not bound in the first instance to pay trust creditors out of the trustee's own pocket, and then to recoup them out of the trust property.  The trustee can discharge liabilities out of the trust property.  The trustee is entitled to be indemnified not only in respect of payments of debts already made, but also against liability to make payment."

(Quotation not checked)

This is referred to again in another text in Lipton and Herzberg, Understanding Company Law, the Law Book Company, 5th Edition, page 70, where it is stated:

"According to trust law, trustees are personally liable to trust creditors for the debts and liabilities properly incurred in administering the trust investments or carrying on its business. If trustees satisfy trust debts or liabilities from their own personal resources, they are entitled to be reimbursed from the assets of the trust. In some situations trustees have the right to be reimbursed by the beneficiaries themselves J.W. Broomhead (Vic) Pty Limited v J. W. Broomhead Pty Limited (1985) 3 ACLC 355]. This right is referred to as a right of reimbursement. Trustees, however, are not required to pay trust creditors from their own resources and then reimburse themselves. They are permitted to pay trust debts and liabilities directly from trust assets. This right is referred to as a right of exoneration. A trustee's rights of reimbursement and exoneration are collectively known as a trustee's rights of indemnity. The right of indemnity is regarded as an asset of a trustee."

(Quotation not checked)

In the present case the claim by the applicant is for legal expenses incurred by the company in an application involving tax payable by the beneficiaries, and involving a proceeding challenging an assessment made by the Commissioner of Taxation.  There is no doubt that the claim is based upon action taken by the company as trustee for the beneficiaries:  in other words, it is a trust debt, if, in due course, that
debt can be established.

In addition, the trustee has a right of indemnity in respect of liabilities, an equitable charge or right of lien on the trust property.  Reference is made to Octavo Investments Pty Limited v Knight (1979) 144 CLR 360. This is a most important decision for present purposes in that there the High Court considered a number of issues involving trusts in circumstances where a preference was involved under the provisions of section 122 of the Bankruptcy Act 1966. It goes a further step which did not arise in the earlier case of Sandell v Porter. It does involve a consideration of the matters presently before the Court. There the question of preference under section 122, where the meaning of "insolvent" was similar to under section 95 of the earlier Bankruptcy Act and the same as in section 95A of the Corporations Law, but with the additional words "out of his own moneys".  The court comprised their Honours, Stephen, Mason, Murphy, Aickin and Wilson JJ, and there was a joint judgment given by  Stephen, Mason, Aickin and Wilson JJ.

At page 367 there are a number of interesting statements which are relevant for present purposes, and I would read the whole of the passage commencing at the first complete paragraph on that page with the words "We do not understand..." down to the end of the first paragraph on page 368.  Then at pages 368 to 369 in their joint judgment, their Honours say:

"Such a conclusion does not follow from a literal reading of the words of the provision. The phrase "from his own money" forms part of the description of the person who makes the payment or engages in the transaction in question and who subsequently becomes bankrupt. The reference is to a person "who is unable to pay his debts as they become due from his own money". We are unable to see any merit in the submission that the phrase "from his own money" qualifies a class of transaction covered by section 122(1)."

The effect of this reasoning is that on their proper construction the two provisions in the Bankruptcy Act and the Corporations Law can be treated identically.  Their Honours continue:

"Even if we are mistaken in this conclusion, the words "from his own money" may well be satisfied if a trustee makes payments to a creditor out of trust assets in respect of which he has not only the legal estate, but also a beneficial interest to secure his right to an indemnity."

In the light of the authorities and the passages quoted, it was submitted that in the present case the company, as trustee, has the right of indemnity to recover any money which it pays to the applicant either voluntarily or following a Court judgment, and could recover that money from the beneficiaries, who, in my opinion, would be able to make payment of it.  In addition to that, those passages make it clear, in my opinion, that in an appropriate case the applicant could sue directly the beneficiaries, relying upon the indemnity in favour of the trustee.

The main submissions made against the acceptance of those views depended upon a line of authority dealing with the question of ordering security for costs.  The main authority relied on was the case of Laundry Coin Wash Nominees Pty Limited v Dunlop Olympic Limited (1985) ATPR 46726.  Under the provisions of the Federal Court of Australia Act 1976 the Court has power to order security for costs. One of the grounds for ordering security for costs is set out in Order 28 rule 3(1)(b) of the Federal Court Rules, which provides:

"3(1)     Where, in any proceeding, it appears to the Court on the application of a respondent:

(a) ...

(b)that an applicant is suing, not for his own benefit but for the benefit of some other person and there is reason to believe that the applicant will be unable to pay the costs of the respondent if ordered so to do;

(c)  ...

the Court may order that applicant to give such security as the Court thinks fit for the costs of the respondent of and incident to the proceeding."

There is also a provision contained in the Corporations Law, section 1335, which enables the Court to give security where an action is brought by a company and, on appropriate evidence, the Court is of a view that the Company would not be in a position to pay the costs if awarded against it.

In the Laundry Coin Wash Nominees case, the action was brought by a trustee, a $2 company, and the question was whether that company which was acting as a trustee for certain beneficiaries was in a position where the Court should order security for costs having regard to the provisions I have just read.  The views expressed by Sir Reginald Smithers, who was the judge in that case, are summarized in the headnote as follows:

"1.So far as the applicant had any entitlement to the relevant tangible assets it was an entitlement only as trustee, the beneficial owner thereof being the trust.  Any attempt to execute against those assets and to realise on the right title and interests of the applicant therein would be unproductive.

1. No benefit could be obtained by the respondents through the indemnity unless the applicant co-operated or was wound up.  Also,the extent to which the indemnity would be productive depended on the state of the trust's finances and there was a possibility of some defence.

1. Where the only tangible asset of an applicant company are held in trust for another entity and a solvency depends on its right as trustee to indemnity against the entity, it is necessary for the court to consider the difficulties which a successful respondent would face in attempting to execute in respect of an order for costs.  Unless some steps were taken to alleviate those difficulties it would be reasonable and just to treat the applicant company as if it were without assets to meet such a liability."

Those views are developed at pages 46729 to 46730.  Those views have been adopted in subsequent cases, particularly in the Supreme Court of Victoria.

In my opinion, those cases were dealing with a completely different type of problem to that presently before the Court. There a company, as trustee, without assets of its own is taking action against a respondent and the respondent is seeking to obtain security for costs to protect itself in the event that if it succeeds there is a real chance that the company would not be able to pay the costs. Even though the Court must have regard to whether the company is able to pay those costs if it is ordered to do so that is not a relevant consideration in a case where the Court has to consider the solvency of a corporation under the provisions of the Corporations Law. Here there is no question, at the moment, of the debt being owed. What must be determined is whether a company that has no assets of its own but holds assets on behalf of beneficiaries is able to pay its debts in circumstances where the law imposes a right of indemnity in favour of that company to recoup itself from the assets of the beneficiaries, if it pays them, or a right of the creditor to go directly to the assets of the beneficiaries to pay the debts.

Counsel for the applicant contended that a statement appearing in the Octavo case at page 367 did not go as far as suggesting that a creditor could sue the beneficiaries directly. I need to read part of that passage again. I commence at the middle of the page. This is from the joint judgment referred to earlier:

"The charge is not capable of differential application to certain only of such assets. ... It applies to the whole range of trust assets in a trustee's possession except for those assets, if any, which under the terms of the trust deed the trustee is not authorised to use for the purposes of carrying on the business."

There is no such limitation here.

"In such a case there are then two classes of persons having a beneficial interest in the trust assets:  first,
the cestuis que trust, those for whose benefit the business is being carried on; (in the present case they are the beneficiaries under the trust deed) and secondly, the trustee in respect of his right to be indemnified out of the trust assets against personal liabilities incurred in the performance of the trust (that is, in the present case a cost incurred by the company in prosecuting a claim involving the taxation of the beneficiaries).  The latter interest (that is the interest of the trustee) will be preferred to the former, so that the cestuis que trust are not entitled to call for a distribution of trust assets which are subject to a charge in favour of the trustee until the charge has been satisfied. ...

The creditors of the trustee have limited rights with respect to the trust assets.  The assets may not be taken in execution ... but in the event of the trustee's bankruptcy the creditors will be subrogated to the beneficial interests enjoyed by the trustee ... "

What that means, as I understand it, is that if the trustee becomes bankrupt the amount of the debt owed by the trustee to the creditor can be proved in the bankruptcy against those entitled to the beneficial interests enjoyed by the trustee.  The passage then continues:

"These principles lead naturally to the conclusion that the beneficial interests which, by subrogation, the creditors whose claims arise from the carrying on of the business have in the assets held by a bankrupt trustee forms part of the property of the bankrupt divisible amongst its creditors ... "

Applying these principles, in my opinion That means the assets held by the company, even though held in trust, are available for distribution among creditors.  In this sense it can be said, in my opinion, that the company is able to pay its debts.

In all the circumstances and having regard to the legal
principles I have referred to, I am satisfied that the company has established that it is solvent within the meaning of subsection 459C(3) of the Corporations Law and that therefore the application should be dismissed.  This has no bearing at all on any question of whether the applicant has a debt against the company or not.  That will need to be determined in another place.  The application is dismissed.

In the present case I see no reason why the ordinary order for costs should not be made.  It appears that initially the grounds of opposition were based on a ground which was untenable, but quite often in proceedings of this kind errors occur and are corrected by amendment.  It appears to have been done in this case, where the real issue at all times seems to have been that the company was solvent and could pay its debts.  What was at issue was whether the debt was owing or not.

In the circumstances I order that the application be dismissed with costs.

I certify that this and the preceding eighteen (18) pages are a true copy of the Reasons for Judgment of The Honourable Justice R.M. Northrop

Associate:

Date:

ATTACHMENT

Counsel for the Applicant:       Mr A.J. McIntosh

Solicitor for the Applicant:     Leo Dimos & Associates

Counsel for the Respondent:      Mr N.R. Bird

Solicitor for the Applicant:     N. C. Gay & Co

Date of Hearing:                 4  December 1995