A & N Contractors (2009) Limited (in liquidation) v Liefting
[2015] NZHC 3091
•8 December 2015
IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY
CIV-2015-404-1147 [2015] NZHC 3091
UNDER the Companies Act 1993 IN THE MATTER
of the liquidation of A & N Contractors
(2009) Limited (In Liquidation)BETWEEN
A & N CONTRACTORS (2009) LIMITED (IN LIQUIDATION) First Plaintiff
AND
HENRY DAVID LEVIN AND VIVIEN JUDITH MADSEN-RIES AS LIQUIDATORS OF A & N CONTRACTORS (2009) LIMITED (IN LIQUIDATION)
Second Plaintiffs
AND
NICOLAAS PETRUS LIEFTING First Defendant
AND
NGAIRE LIEFTING Second Defendant
Hearing: 12 November 2015 Appearances:
P Shackleton and for the Plaintiffs
No appearance for the DefendantsJudgment:
8 December 2015
JUDGMENT OF THOMAS J [FORMAL PROOF HEARING]
This judgment was delivered by me on 8 December 2015 at pursuant to Rule 11.5 of the High Court Rules.
Registrar/Deputy Registrar
Date:………………………….
Solicitors:
Meredith Connell, Auckland.
A & N CONTRACTORS (2009) LIMITED (IN LIQUIDATION) v LEVIN AND MADSEN-RIES AS LIQUIDATORS OF A & N CONTRACTORS (2009) LIMITED (IN LIQUIDATION) [2015] NZHC 3091 [8
December 2015]
Introduction
[1] The first plaintiff, A & N Contractors (2009) Ltd (in liq) (the Company) and the second plaintiffs, Mr Levin and Ms Madsen-Ries, as its liquidators (Liquidators), claim against the first defendant, Mr Liefting, and his wife, Mrs Liefting, the second defendant.
[2] The Company claims amounts are owed by the defendants under their overdrawn joint current account being a debt owed to the Company, repayable on demand.
[3] Alternatively, the Company claims the amounts taken by the defendants from the Company were transactions for inadequate consideration under s 298 of the Companies Act 1993 (the Act).
[4] The plaintiffs also seek to recover, under s 301 of the Act, compensation from
Mr Liefting for the alleged breaches of duties imposed on him as director under ss
131, 135 and 136 of the Act.
[5] The plaintiffs also seek to recover, under s 300 of the Act, compensation from Mr Liefting for alleged breaches of s 194 of the Act and s 10 of the Financial Reporting Act 1993.
[6] The Company went into liquidation owing creditors $258,810.24, including
$221,844.57 to the Inland Revenue Department (the IRD). The plaintiffs directly attribute the loss suffered by the Company and its creditors to Mr Liefting’s failure properly to discharge his responsibilities as director of the Company – in particular, by continuing to trade the Company after it became insolvent and continuing to take drawings (or allowing Mrs Liefting to take drawings) from the Company during this time.
[7] The plaintiffs commenced this proceeding on 22 May 2015. No statements of defence have been filed and the proceeding was heard as a formal proof.
Factual background
[8] The Company was incorporated under the Act on 20 July 2009. [9] Mr Liefting:
(a) has been a director of the Company at all times, and the sole director of the Company since 21 July 2009;
(b) held 300 of the Company’s 900 shares from July 2009 to April 2012
and all of the Company’s 900 shares from April 2012; and
(c) is the husband of the second defendant, Mrs Liefting. [10] Mrs Liefting:
(a) held 300 of the Company’s 900 shares from July 2009 to July 2010 and 600 of the Company’s 900 shares from April 2010 to April 2012 when she was removed as a shareholder of the Company;
(b) has never been a director of the Company; and
(c) is the wife of the first defendant, Mr Liefting.
[11] The Company ceased trading on or about 24 January 2013.
[12] The Company was placed into liquidation on 25 January 2013, on the application of the IRD, filed on 15 November 2012. The second plaintiffs were appointed as Liquidators.
[13] The Liquidators have received creditors’ claims in the liquidation totalling
$258,810.24, as follows:
Accident Compensation Corporation $7,340.60
Brian Roberts 1998 Ltd – Towing
$2,969.25
Inland Revenue
$217,913.61
Inland Revenue Court costs
$3,930.96
Knight & Dickey Ltd
$5,916.42
R J Stewart Ltd
$18,524.65
Sim Reinforcing Ltd
$308.14
Yellow Pages Group Ltd
$1,906.61
Total:
$258,810.24
[14] The IRD’s claim, which is by far the largest, totals $221,844.57 including petitioning creditor court awarded costs. This claim is comprised of:
(a) a preferential claim for court liquidation costs of $3,930.96;
(b)a preferential claim for KiwiSaver employer contributions (KSR), KiwiSaver employee deductions (KSE), PAYE, GST, and Specified Superannuation Contribution Withholding Tax (SSCWT), totalling
$142,563.72; and
(c) a non-preferential claim for KSR, KSE, PAYE, GST, SSCWT and
Income Tax penalties, totalling $75,349.89.
[15] The Company’s only assets at liquidation (aside from the current account debt which the Liquidators are seeking to recover in these proceedings) were two small accounts receivable. One has been recovered and the Liquidators do not expect recovery of the other.
First cause of action: debt owing by Mr and Mrs Liefting on their joint current account
[16] Judgment is sought against both the first and second defendants on the basis that the advances made on their current account as shareholders are a debt due repayable on demand.
[17] Advances made on a shareholder’s current account are a due debt owed by
the shareholder to the company repayable on demand.1
[18] Because the Company did not keep proper accounting records from
1 April 2010, the Liquidators recreated the defendants’ joint current account for the
period of 15 November 2009 (being three years before the Company’s liquidation) to
25 January 2013 (being the date of the Company’s liquidation).
[19] The Liquidators identified transactions which were payments to the defendants, or for their joint benefit, and inconsistent with the business expenditure of the Company.
[20] The Liquidators say that, between 15 November 2009 and 25 January 2013, the Company made payments to the defendants (or for their joint benefit) and
received payments from the defendants (Transactions) as follows:
00 Account
$
50 Account
$
Total
$
Personal in nature
41,704.86
1,793.91
43,498.77
ATM/cash withdrawals
231,593.97
6,300.00
237,893.97
Insurance payments
18,348.94
600.00
18,948.94
Donations
3,590.00
3,590.00
Deposits
(9,700.00)
(9,700.00)
Total:
285,537.77
8,693.91
294,231.68
1 See, for example, Thom Contractors Limited (in liq) v Thom HC Auckland CIV 2008-404-6829,
28 April 2009 at [16]; Re Samarang Developments Ltd (in liq) HC Christchurch CIV 2003-409-
2094, 30 September 2004 at [55]; and Chesterton Holdings Ltd (in liq) v Durney HC Napier CIV
2011-441-7, 19 May 2011 at [17].
Transactions inconsistent with business expenditure
[21] Mr Levin, an insolvency specialist and one of the Liquidators, explained why the plaintiffs consider that the Transactions were inconsistent with the business expenditure of the Company. I accept that evidence.
[22] I agree that the obvious inference is that the Transactions were for the personal benefit of the defendants who were both signatories on the Company’s accounts.
[23] If the Transactions were legitimate expenditure of the Company, they should have been properly documented as such. Mr Liefting was obliged under the Act to keep proper records and, as director and fiduciary of the Company, to account to the Company for its funds. It is incumbent on a director to explain what has become of company property in his hands.2
Transactions are not additional salary
[24] Mr Levin also outlined the reasons why the Transactions do not comprise salary or wage payments to the defendants: in the business profile he completed, Mr Liefting advised the Liquidators that neither he nor Mrs Liefting were paid or credited a salary/wage; the Transactions were not in the nature of wages/salary as they were not regular in amount or frequency; there is no known employment contract between the Company and either of the defendants; the IRD has confirmed that the defendants were not registered as employees of the Company; and Mr Liefting has no entitlement as director of the Company to receive remuneration. There is no evidence that ss 161 or 107 of the Act were met and no evidence that signed certificates and/or assents exist.
Transactions are drawings on the Lieftings’ joint current account
[25] I accept that the Transactions are properly characterised as drawings on the defendants’ joint current account.
2 See Morgenstern v Jeffreys [2014] NZCA 449 at [58].
[26] The Transactions remain advances repayable on demand, unless and until a Company resolution classifies such advances otherwise.3 There has been no such resolution in this case.
[27] I also accept that the current account owing by the defendants was a joint current account because, first, in the only financial statement prepared for the Company being in respect of the year ending March 2010, it was classified as a joint current account. Secondly, the defendants were the sole shareholders in the Company throughout the entire period. The first defendant was the sole director for the whole of the Company’s life from day two of its existence. Thirdly, the second defendant was a signatory on the Company’s bank accounts.
Conclusion
[28] For the reasons given, I am satisfied that the total balance of the joint current account which is owed by the defendants is $294,231.68. Demand having been made, the Company is entitled to recover the outstanding joint current account from the defendants who are jointly liable.
[29] The second cause of action, alleging transactions for inadequate consideration,4 is in the alternative to the first and, given my finding in respect of the first cause of action, it does not need to be addressed.
Third cause of action: breaches of director’s duties and claim under s 301 of the
Act
Section 131(1) of the Act
Relevant law
[30] Section 131(1) of the Act provides:
(1) Subject to this section, a director of a company, when exercising powers or performing duties, must act in good faith and in what the director believes to be the best interests of the company.
3 Re Samarang Developments Ltd, above n 1, at [55].
4 Companies Act 1993, s 298.
[31] The duty imposed by s 131(1) is a subjective one. However, where it is inconceivable that a director with any appreciation of fiduciary responsibilities could cause a company to enter into a transaction, a director will generally be regarded as breaching the duty regardless of the subjective belief held.5
[32] Once a company is of doubtful solvency, the duty is also owed to its creditors.6
[33] In Sojourner v Robb, Fogarty J observed:7
In this context the standard in s 131 is an amalgam of objective standards as to how people of business might be expected to act, coupled with a subjective criteria as to whether the directors have done what they honestly believe to be right. The standard does not allow a director to discharge the duty by acting with a belief that what he is doing is in the best interest of the company, if that belief rests on a wholly inappropriate appreciation as to the interests of the company… Creditors are persons to whom the company has ongoing obligations. The best interests of the company include the obligation to discharge those obligations before rewarding the shareholders.
Analysis
[34] I am satisfied from the evidence that Mr Liefting failed to ensure the Company met its tax obligations as they became due. He allowed the Company to continue trading and incur further tax debts (and other liabilities) for over two and a half years after it had become insolvent.
[35] I accept the submission that the Company’s inability to pay its taxes and other liabilities was largely due to the defendants’ use of Company funds for their personal benefit by drawings on the joint current account.
[36] These funds, which included amounts received by the Company on behalf of the Crown for GST and PAYE, ought to have been paid to the IRD shortly after receipt. The failure to account to the IRD for PAYE comprises a breach of trust
under s 167 of the Tax Administration Act 1994.
5 See Australian Growth Resources Corp Ltd v Van Reesema (1988) 13 ACLR 261.
6 Nicholson v Permakraft (New Zealand) Ltd [1985] 1 NZLR 242 (CA) at 249-250.
7 Sojourner v Robb [2006] 3 NZLR 808 (HC) at [102].
[37] While the defendants continued to take drawings in preference to paying the Company’s creditors, the Company had no prospect of meeting its overdue debts, much less the further debts it would accrue.
[38] As a result, the Company and its creditors suffered increasing losses until the Company eventually ceased trading. I accept the submission that the loss was a direct result of the Mr Liefting’s failure to act in good faith and in the best interests of the Company.
Section 135 of the Act
Relevant law
[39] Section 135 of the Act provides:
135 Reckless trading
A director of a company must not—
(a) agree to the business of the company being carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors; or
(b) cause or allow the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors.
[40] In Mason v Lewis, the Court of Appeal set out the “essential pillars” of a
claim under s 135 of the Act as follows:8
• the duty which is imposed by s 135 is one owed by directors to the company (rather than to any particular creditors);
• the test is an objective one;
• it focuses not on a director’s belief, but rather on the manner in which a company’s business is carried on, and whether that modus operandi creates a substantial risk of serious loss;
• what is required when the company enters troubled financial waters is what Ross… accurately described as a “sober assessment” by the directors, we would add of an ongoing character, as to the company’s likely future income and prospects.
8 Mason v Lewis [2006] 3 NZLR 225 (CA) at [51].
[41] The duty reflects a director’s duty to protect the interests of creditors when the company approaches insolvency. The Court of Appeal recognised this in Robb v Sojourner, when it cited with approval a passage from the judgment of Gummow J in Re New World Alliance Pty Ltd; Sycotex Pty Ltd v Baseler, that:9
Where a company is insolvent or nearing insolvency, the creditors are to be seen as having a direct interest in the company and that interest cannot be overridden by the shareholders.
Analysis
[42] Mr Levin’s evidence, which I accept, is that the Company was insolvent from, at latest, 1 July 2010.
[43] The only responsible course was to cease trading when the Company had overdue and increasing tax debts it had no realistic prospect of paying. However, Mr Liefting continued to trade until January 2013, the day before liquidators were appointed.
[44] By continuing to trade whilst insolvent, Mr Liefting created a substantial risk of serious loss to the Company’s creditors and exacerbated that risk by continuing to allow drawings on the joint current account during this period.
[45] No financial statements were prepared after the year ending March 2010. There is no evidence any management accounts or forecasts were prepared after this period. I accept the submission that a “sober assessment” of the Company’s prospects at any time during this period would have left no room for doubt that the Company should cease trading.
Section 136 of the Act
Relevant law
[46] Section 136 of the Act provides:
136 Duty in relation to obligations
9 Robb v Sojourner [2007] NZCA 493, [2008] 1 NZLR 751 at [25] citing Re New World Alliance
Pty Ltd; Sycotex Pty Ltd v Baseler (1994) 51 FCR 425 (FCA) at 445.
A director of a company must not agree to the company incurring an obligation unless the director believes at that time on reasonable grounds that the company will be able to perform the obligation when it is required to do so.
[47] The Court of Appeal in Peace and Glory Society Ltd (in liq) v Samsa set out the obvious elements of s 136:10
(a) That the defendant was a director of the company;
(b) That an obligation was incurred by the company; and
(c) That at the time of incurring the obligation, the defendant did not honestly believe on reasonable grounds that the company would be able to perform the obligation when it was required to do so.
[48] In Fatupaito v Bates, O’Regan J held that to establish a breach of s 136, a plaintiff must show that the defendant agreed to the company incurring an obligation at a time when he or she did not believe (a subjective test), on reasonable grounds (an objective test), that the company would be able to perform that obligation when required to do so.11
[49] In Jordan v O’Sullivan, Clifford J explained the application of ss 135 and 136 as follows:12
[69] Taken overall, perhaps what can now be said is that, particularly in
terms of the statutory expression of directors’ duties found in ss 135 and
136, directors owe duties to a company, that would appear to be designed, in the overall scheme of the Companies Act, to protect, at least to a certain extent, the position of the creditors of the company at all times. Whether or not, at a particular point in time, the directors are likely to breach those duties will, fairly obviously, depend on the financial position of the company. Where a company is in a strong financial position, adequately capitalised and making sustainable profits, it is most unlikely the directors will be engaging in a course of action (s 135), or incurring specific obligations (s 136), that involve the taking of illegitimate risks. They will, therefore, in all likelihood be meeting the duties they owe to the company which are designed to protect the interests of its creditors. If, however, the financial position of the company deteriorates significantly so that the position of the creditors becomes significantly more risky, the directors may, again by reason of the duties the Act provides they owe to the company, need to pay more attention to the position of the creditors. That need becomes most pressing where a company is insolvent, or near to insolvency, and the directors have the difficult decision to make as to whether to cease
10 Peace and Glory Society Ltd (in liq) v Samsa [2009] NZCA 396, [2010] 2 NZLR 57 at [45].
11 Fatupaito v Bates [2001] 3 NZLR 386 (HC) at [80].
12 Jordan v O’Sullivan HC Wellington CIV-2004-485-2611, 13 May 2008 at [69].
trading or, on a rational and reasoned basis having appropriate regard to the interests of creditors, continue trading with a view to returning the company to a sound financial position.
Analysis
[50] For as long as the Company continued to trade, Mr Liefting caused it to continue incurring obligations to creditors, including the IRD.
[51] The evidence establishes that the Company began defaulting on its KSR obligations from 30 April 2010 and on its GST obligations from 31 May 2010. The Company then began defaulting on payments of PAYE, KSE, and SSCWT, as well as incurring some minor income tax penalties. As the Company continued to fail to meet its tax obligations, its debt to the IRD continued to grow and was compounded by the interest and penalties.
[52] The scale of the IRD’s claim at the date of liquidation ($221,844.57, including petitioning creditor court awarded costs) is indicative of the extent to which Mr Liefting allowed the Company to incur obligations that it was unable to perform.
[53] I accept the submission that there is nothing to indicate there were reasonable grounds for Mr Liefting to believe that the Company would be able to meet its further tax liabilities as they were incurred from the continuation of the Company’s trading. There is no evidence that Mr Liefting prepared any forecasts or that he properly assessed the Company’s prospects. The Company had no prospect of returning to a sound financial position as long as Mr Liefting continued to use and/or allowed Mrs Liefting to use its available cash funds for their personal benefit by the payment of drawings to the Joint Current Account. Any assessment by Mr Liefting ought to have taken into account the existing overdue debts to the IRD, which were clearly a significant obstacle to paying new debts as they arose.
[54] I accept the submission that, regardless of any subjective belief that Mr Liefting may have held, there was no objective reasonable basis to consider that the Company would be able to perform its obligations when required to do so.
Fourth cause of action continued: quantum of relief under s 301 of the Act
Relevant law
[55] The Plaintiffs say that this is a case where there was no proper corporate governance and where Mr Liefting fell well short of appropriate compliance with the Act.
[56] Limitations of liability provided by incorporation of a company are conditional upon proper compliance with the Act.13 A director’s duty to a company under the Act extends to protecting the interests of creditors when the company approaches insolvency.14
[57] Section 301 of the Act provides:
301 Power of court to require persons to repay money or return property
(1) If, in the course of the liquidation of a company, it appears to the court that a person who has taken part in the formation or promotion of the company, or a past or present director, manager, administrator, liquidator, or receiver of the company, has misapplied, or retained, or become liable or accountable for, money or property of the company, or been guilty of negligence, default, or breach of duty or trust in relation to the company, the court may, on the application of the liquidator or a creditor or shareholder,—
(a) inquire into the conduct of the promoter, director, manager, administrator, liquidator, or receiver; and
(b) order that person—
(i) to repay or restore the money or property or any part of it with interest at a rate the court thinks just; or
(ii) to contribute such sum to the assets of the company by way of compensation as the court thinks just; or
(c) where the application is made by a creditor, order that person to pay or transfer the money or property or any part of it with interest at a rate the court thinks just to the creditor.
(2) This section has effect even though the conduct may constitute an offence.
13 Mason, above n 8, [83].
14 Robb, above n 11, at [25].
(3) An order for payment of money under this section is deemed to be a final judgment within the meaning of section 17(1)(a) of the Insolvency Act 2006.
(4) In making an order under subsection (1) against a past or present director, the court must, where relevant, take into account any action that person took for the appointment of an administrator to the company under Part 15A.
[58] The principal purpose of s 301 is to compensate those who have suffered loss as a result of illegitimate trading.15 Section 301 has been described as being analogous to a derivative type of action16 and as “a procedural short cut by which a liquidator, creditor or shareholder may pursue the claims which a company in liquidation may have against” its directors.17 It is a means of enforcement against directors who have “been guilty of negligence, default, or breach of duty or trust in relation to the company.”18
[59] Having concluded there was a breach of duty owed by Mr Liefting to the Company, the question is to what extent should he contribute to the losses of the company?
[60] A three-factor approach to relief under s 301 was outlined by the Court of
Appeal in Mason v Lewis:19
[109] The standard approach has been to begin by looking to the deterioration in the company’s financial position between the date inadequate corporate governance became evident (really the “breach” date), and the date of liquidation.
[110] Once that figure has been ascertained, New Zealand Courts have seen three factors - causation, culpability and the duration of the trading - as being distinctly relevant to the exercise of the Court's discretion …
…
[118] Finally, claims of this character necessarily have to be approached in a relatively broad-brush way. The jurisdiction to order recompense is of an “equitable” character.
[61] In Löwer v Traveller, the three factors were described as follows:20
15 Löwer v Traveller [2005] 3 NZLR 479 (CA).
16 Robb, above n 11, at [15].
17 Robb, above n 11, at [53].
18 Peace and Glory Society Ltd (in liq), above n 13, at [47].
19 Mason, above n 8, at [109], [110] and [118] (footnotes omitted).
(a) Causation is concerned with the link between the carrying on of the company's business recklessly, to the knowledge of the impugned director, and the indebtedness of the company for which it is sought to impose personal liability.21
(b)Culpability is linked to the deterrent purpose of the provision. This factor calls for an assessment of the blameworthiness of the director's conduct, bearing in mind that at one end of the range the nature of a director's involvement will be blind faith or muddle-headedness, while at the other end there will be actions or instances of inaction which are plainly dishonest. The deterrent purpose of the section is served in cases involving a high degree of culpability by orders which
are punitive as well as compensatory.22
(c) Duration of the wrongful trading was in that case two years and 10 months and was described as “lengthy”.23
[62] The Court of Appeal upheld the trial judge’s finding of 100 per cent liability for loss during the relevant period. The director was found to have been unreasonably optimistic and put his own interests ahead of other unsecured creditors over an extended period.
Analysis
Insolvency of the Company
[63] The first issue is the date on which the Company became insolvent.
[64] Section 4 of the Act sets out the solvency test for companies as follows:
4 Meaning of solvency test
(1) For the purposes of this Act, a company satisfies the solvency test if—
20 Löwer, above n 19.
21 Löwer, above n 19, at [70].
22 Löwer, above n 19, at [83].
23 Löwer, above n 19, at [86].
(a) the company is able to pay its debts as they become due in the normal course of business; and
(b) the value of the company’s assets is greater than the value of its liabilities, including contingent liabilities.
(2) Without limiting sections 52 and 55(3), in determining for the purposes of this Act (other than sections 221 and 222 which relate to amalgamations) whether the value of a company’s assets is greater than the value of its liabilities, including contingent liabilities, the directors—
(a) must have regard to—
(i) the most recent financial statements of the company that are prepared under this Act or any other enactment (if any); and
(ia) the accounting records of the company; and
(ii) all other circumstances that the directors know or ought to know affect, or may affect, the value of the company’s assets and the value of the company’s liabilities, including its contingent liabilities:
(b) may rely on valuations of assets or estimates of liabilities that are reasonable in the circumstances.
…
(4) In determining, for the purposes of this section, the value of a contingent liability, account may be taken of—
(a) the likelihood of the contingency occurring; and
(b) any claim the company is entitled to make and can reasonably expect to be met to reduce or extinguish the contingent liability.
[65] It is the cash flow solvency test which the plaintiffs say the Company failed from at least 1 July 2010. Mr Levin’s evidence is that the Company did not have sufficient available assets to pay its debts as they became due in the ordinary course of business from 1 July 2010 and thereafter to the date of liquidation. The debts the Company was unable to pay were primarily its tax obligations to the IRD.
[66] The Company began defaulting on its KSR obligations from 30 April 2010 and on its GST obligations from 31 May 2010. The Company then began defaulting on payments of PAYE, KSE, and SSCWT, as well as incurring some minor Income Tax penalties. As the Company continued to fail to meet its tax obligations, its debt to the IRD grew and was compounded by interest and penalties.
[67] The plaintiffs claim one reason for the Company’s failure to meet its tax debts is that the defendants continued regularly to draw on their joint current account.
[68] Mr Levin says that, based on his experience, a failure to pay PAYE and GST on a regular basis is a sure sign of a company in trouble. Businesses with cash flow problems are often tempted to defer their tax obligations as the IRD, unlike trade creditors or its employees, cannot withhold the services and materials required to continue in trade if it remains unpaid. I accept that this is obviously not a prudent or sustainable commercial practice, particularly given the speed at which interest and penalties accrue on the outstanding core tax debt.
[69] The only financial statements prepared for the Company were for the financial year ended 31 March 2010. They record that the Company generated a deficit from trading of $2,547 from sales of $380,376. They record that, as at
31 March 2010, the Company had a net asset deficit of $1,647.
[70] The Company’s bank statements from one of its accounts record that, from at least 25 March 2010, the Company frequently incurred dishonour fees and insufficient funds fees.
[71] In late October 2010, the Company entered into a repayment arrangement with the IRD pursuant to which it agreed to repay its then outstanding tax arrears by four monthly payments of $1,800 per month commencing on 22 November 2010. The Company was unable to make the first payment due under that arrangement and, in late November 2010, the Company and the IRD agreed to vary the repayment arrangements. Notwithstanding that, however, the Company failed to make the payments due in accordance with the arrangement and the Company continued to default on its ongoing tax obligations.
[72] The plaintiffs therefore say the Company did not satisfy the solvency test under s 4 of the Act, and was therefore insolvent from at latest 1 July 2010 which is the “breach” date for s 301. The majority of the outstanding debts in the liquidation were incurred following this period.
[73] Mr Liefting was the Company’s sole director at all relevant times. The Liquidators claim that the financial position of the Company was such that Mr Liefting ought to have undertaken an objective “sober assessment” of the position of the Company. Instead the Company continued to trade, with the inevitable consequence of eventual liquidation with outstanding debts to creditors.
[74] Therefore, the Liquidators say, the loss suffered as a result of the breach is represented by the total amount of creditor claims filed in the liquidation being
$258,810.24.
Causation
[75] There needs to be a direct causal link between the breach and the loss. In Mr Shackleton’s submission, the fact that the Company continued to trade long after it was able to pay its debts, compounding its losses through the shareholders taking funds for their personal expenditure, demonstrates that link.
[76] The first defendant preferred other creditors over the IRD which must have been done with full knowledge of the accrual of interest and penalties under the Income Tax Act 2007. Those are well known and are the natural consequences of a failure to pay.
[77] Mr Shackleton referred to the consistent period throughout which funds were drawn from the Company’s accounts; that there was no evidence of any forecasting or plans which suggested there was a realistic prospect of the Company trading out of its financial position; that the 2010 financial statements were not prepared until July 2011. These factors emphasise Mr Liefting’s defaults as a director in continuing to trade for the period he did.
[78] The Liquidators submit that Mr Liefting’s actions were the cause of the Company’s losses as he had sole responsibility for the management of the Company as its director during the relevant period.
[79] I accept that, if Mr Liefting had ceased to trade the Company shortly after it became insolvent, the outstanding debts to creditors would not exist or have been
substantially reduced. The debts were exacerbated by the accumulation of interest and penalties, by the drawings on the defendants’ joint current account, and by the failure of Mr Liefting to demand repayment of the joint current account.
[80] In the circumstances, there is clearly a direct causal link between Mr Liefting’s breaches of his duty as director and the loss suffered by the Company’s creditors.
Culpability
[81] The Liquidators say that while Mr Liefting may not have been dishonest, his actions fell well below the standard of care required to discharge his duties under the Act. There are three areas of default identified:
(a) continuing to trade the Company after he knew or ought to have known that the increasing levels of overdue tax liability meant the Company was insolvent;
(b)choosing to pay himself and his wife by taking drawings, and/or allowing Mrs Liefting to take drawings, instead of paying the Company’s creditors; and
(c) having allowed the drawings, failing to demand repayment of the outstanding joint current account.
Duration
[82] The Company traded for approximately three and a half years. It was insolvent by 1 July 2010 and did not cease trading until January 2013. It therefore traded while insolvent for approximately two and a half years – all but 10 months of its trading life.
[83] During this time, the Company caused significant losses to creditors.
Quantum of relief
[84] The Liquidators say it is appropriate that Mr Liefting contribute $258,810.24, being the entire amount owed by the Company to its external creditors plus interest from the date of liquidation.
[85] Mr Shackleton referred to various authorities, including Mizeen Painters Ltd
(in liq) v Tapusoa. I adopt the approach taken by Muir J in that case as follows:24
[61] I accept the liquidators’ submission that this claim is conceptually independent of a claim to the current account and is appropriately the subject of a separate award. The fact that the current account claim of itself exceeds the creditor claims plus costs and that additional awards under s 300 and s 301 create a further margin over those liabilities is not unusual in this context. In each of Bay Kiwifruit Contractors Limited (in liq) v Ladher; Madsen-Ries v Petera; and Richard Geewiz Gee Consultants Limited (in liq) v Gee;25 cumulative awards in relation to one or more of current accounts, salaries paid in breach of s 161(5) and s 300 and/or S 301 claims exceeded total outstanding creditor claims. As identified in Morgenstern v Jeffreys, the excess will return to Mr and Mrs Tapusoa as shareholders in any event. In that respect I again record the position of a liquidator is to avoid unnecessary circularity. Those practical issues should not, in my view, detract from the principle that discrete heads of claim should be the subject of discrete judgments.
…
[63] In a number of cases, including Mako Holdings Limited (in liq) v Crimp26 and Lakeside Venture 2010 Limited (In Liq) v Levin27 the Court has made awards under s 301 equating to 100 per cent of creditor losses. In Mako Holdings Limited the award also included liquidators’ costs (including the costs of litigation on an effectively solicitor and own client basis with the admonition that unless Judges take a firm line with those who choose to act in breach of their director’s duties “we will wind up creating incentives for directors to strip their companies on the basis that they can argue about it later”.28 In Lakeside Venture 2010 Limited the Court awarded costs on a 2C basis.
[86] It is clear that as from at least 1 July 2010, the Company was unable to pay its debts and that should be taken as effectively the date when Mr Liefting’s breaches
as a director commenced. As a director, he allowed the Company to continue to
24 Mizeen Painters Ltd (in liq) v Tapusoa [2015] NZHC 826.
25 Richard Geewiz Gee Consultants Ltd (in liq) v Gee [2014] NZHC 1483.
26 Mako Holdings Ltd (in liq) v Crimp HC Invercargill CP23/99, 28 November 2000.
27 Lakeside Venture 2010 Ltd (In Liq) v Levin [2014] NZHC 1048.
28 Mako Holdings Limited (in liq), above n 29, at [75].
trade when it could not pay its debts and the defendants continued to draw from the
Company. There was, therefore, the necessary causation, culpability and duration.
[87] If there is a surplus in the liquidation, this amount will be returned to Mr Liefting as the Company’s sole shareholder.29 The overall effect of the order sought under s 301 is therefore to shift the financial consequences of Mr Liefting’s breaches of duty from the Company’s creditors to Mr Liefting. I accept that this consequence is entirely just in the circumstances.30
Fourth cause of action: breach of duties under s 194 of the Act and s 10 of the
Financial Reporting Act 1993
[88] In addition to the duties breached by Mr Liefting and discussed above, the plaintiffs submit that Mr Liefting also breached his duties as director as follows:
(a) s 194 of the Act: failure to keep proper accounting records which correctly recorded and explained the transactions of the Company and would at any time enable the financial position of the Company to be determined with reasonable accuracy; and
(b)s 10 of the Financial Reporting Act 1993: failure to ensure the Company completed complying financial statements for the years ended 31 March 2011 and 31 March 2012.
Relevant law
[89] In Thom Contractors Ltd (in liq) v Thom, in relation to a dispute raised by
Mr Thom as to the company’s accounts, the Court said:31
As to the financial statements, to which Mr Thom has not subscribed, the liquidators are also able to say that insofar as they, or the company's records from which they derive, are deficient Mr Thom must accept responsibility. As sole director he was obliged under s 194(1) of the Companies Act 1993 to ensure that the company's records, amongst other things, correctly recorded
29 Mizeen Painters Ltd (in liq), above n 28, at [29] and [61] citing Morgenstern, above n 2, at
[103].
30 It was the approach followed in, for example, Madsen-Ries v Candy [2015] NZHC 1229 at [17]
and [19] and Mizeen Painters Ltd, above n 28, at [56] to [67].
31 Thom Contractors, above n 1, at [17].
and explained the company's transactions (subpara (a)), and enabled its financial position to be determined with reasonable accuracy at any time (subpara (b)) and its financial statements to be readily and properly audited (subpara (d)). He is accountable for any failure in the accounting records to record entries of money received and spent each day and the matters to which they relate: s 194(2). These instances are not exhaustive.
[90] Under s 10 of the Financial Reporting Act 1993, that was still in force for the relevant periods, a director of every reporting entity must ensure that financial statements that comply with s 11 of the Financial Reporting Act 1993 are prepared within five months of the end of each financial year.
Analysis
[91] Mr Liefting failed to keep accounting records that correctly recorded and explained the transactions of the Company; enabled the financial position of the Company to be determined with reasonable accuracy; enabled the financial statements of the Company to comply with generally accepted accounting practice and enabled the financial statements of the Company to be readily and properly audited.
[92] Mr Liefting also failed to ensure that the Company completed complying financial statements for the years ended 31 March 2011 and 31 March 2012.
[93] This failure by Mr Liefting to comply with his duty to keep adequate accounting records resulted in substantial uncertainty as to the financial position of the Company which contributed to the Company’s inability to pay its debts, and caused the Liquidators to incur fees and expenses they would not otherwise have incurred, in turn affecting the orderly liquidation of the Company.
[94] The fourth cause of action is essentially complementary to the third. If the full loss to the creditors is awarded under the third cause of action, no additional compensation is sought regarding the fourth cause of action. Mr Shackleton accepts that the commonality of the behaviour relied upon in respect of the third and fourth causes of action means that no additional orders would be sought.
Result
[95] For the reasons given:
(a) Judgment is given for the Company in its claim for $294,231.68 plus interest and costs. The defendants are jointly liable.
(b)The claims against the first defendant succeed. He is to pay compensation of $258,810.24 plus interest from the date of liquidation, subject to the extent to which the IRD claim includes
interest.
Thomas J
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