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Winding up and bankruptcy – courts require technical compliance – for good reason!
By James Neate LICM CCE and Alice Carter MICM CCE*
James Neate LICM CCE
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Alice Carter MICM CCE
There are very few legal processes which completely change the legal status of a person. They are rare and extreme legal circumstances such as imprisonment, insanity or loss of legal capacity and relevantly for creditors, formal insolvency.
Obtaining orders to wind up a company or to bankrupt a person has significant legal consequences. They change an individual’s rights, as well as the rights of third parties, the control of assets, the ability to sue and the enforceability of secured interests.
The Corporations Act 2001 (Cth) and the Bankruptcy Act 1966 (Cth) allow sweeping legal changes in the control and status of a debtor, but these fundamental changes are only allowed to arise in very specific circumstances which include formally proving that the debtor is insolvent. There are statutory mechanisms which allow proof of insolvency before these powerful orders can be made. Technical compliance is a fundamental cornerstone of applications to wind up a company or to bankrupt a person. The Courts require that technicalities are strictly complied with. Drastic consequences give rise to strict obligations as to procedural compliance.
Two recent decisions of Superior Courts (including a decision of a three Judge Full Court of the Federal Court of Australia) demonstrate how critical strict technical compliance is to the corporate and personal insolvency regimes.
Re Three Pillars Lynbrook Pty Ltd [2022] VSC 540 (Three Pillars)
Statutory Demands are the precursor to most creditordriven wind-up applications. The failure to comply with a valid Statutory Demand will give rise to a statutory presumption of ➤
insolvency and that is often used as the foundation for a Court application. There are strict rules about the format, content and service of Statutory Demands. In Three Pillars, the Court was concerned with the description of the debt contained in the Statutory Demand.
The Creditor, Three Pillars Development Management Pty Ltd, served a Statutory Demand on the Debtor, Three Pillars Lynbrook Pty Ltd. The two companies were previously engaged in housing development project in Victoria. The Statutory Demand described the debt due as “…manager remuneration payable to the company from the creditor”. The Affidavit which accompanied the Statutory Demand described the debt as an amount “payable to the company from the creditor”. No time periods or other particulars were provided.
The Debtor applied to set aside the Statutory Demand on the basis that the debt descriptions in the Statutory Demand and accompanying Affidavit (even when read together) did not describe the debt in a way that allowed the Debtor to assess whether a genuine dispute existed. It was argued that even prior to the Statutory Demand being issued, there was confusion about the nature of certain transactions and what amounts (if any) were owed. In particular, the Affidavit highlighted that there were three separate potential legal grounds which may have given rise to the debt. That the Creditor was unclear as to the real legal basis of the claims, was said to be enough to invalidate the Statutory Demand.
The Creditor opposed the set aside Application, saying that the debt was sufficiently described and verified, and even if not,
the Debtor had not suffered any injustice from the manner in which the debt had been described. The Creditor said that the wording used to describe the debt, together with the amount claimed, was sufficient to enable a “…reasonable person in the shoes of the director of [the Debtor], to identify the general nature of the debt to a sufficient degree…”.
The Court rejected the Creditor’s submissions, deciding that the Statutory Demand was defective and setting it aside pursuant to section 459J(1)(a) of the Corporations Act 2001 (Cth). In reaching this decision, the Court said that the description of the debt did not give any information which would assist a reasonable person to understand (1) the nature of the debt, (2) the source of the legal obligation to pay and (3) the manner in which the debt was calculated. Technical issues as to how the Statutory Demand should be worded were not met.
Hrycenko v Hrycenko (by his legal representative Hrycenko) [2022] FCAFC 152 (Hrycenko)
In this case, the technical compliance issue considered by the Court was about the validity of an extension order made after the 12-month life of the Creditor’s Petition had expired. In short, the Sequestration Order was made on an expired Creditor’s Petition which was later back dated by Court Order.
Against a background of family dispute, George served a Bankruptcy Notice on his son Victor in April 2020. George passed away in June 2020 and so his representative, his other son Nicholas, issued a Creditor’s Petition based on Victor’s failure to comply with the Bankruptcy Notice.
After a lengthy court process, a Sequestration Order was made against Victor, some 15 months after the Creditor’s Petition was first filed and at a time when it had already lapsed. A single Judge of the Federal Court made orders nunc pro tunc, latin for “now for then”, a retrospective order which extended the life of the expired Petition up to the date of the Sequestration Order.
Victor appealed the Sequestration and extension order arguing that as the Creditor’s Petition had already lapsed, the Bankruptcy was a legal nullity.
Section 52 of the Bankruptcy Act 1966 (Cth) makes it clear that any order extending the limitation period of a Creditor’s Petition must be made before its expiry. The Court had to consider whether the order made out of time could be regularised by invoking a Court rule known as the “slip rule”, which is designed to give the Court powers to fix up procedural oversights in any of its processes.
On appeal, the three Judge Federal Court determined that the slip rule did not apply, and that an ineffective Sequestration Order had been made. As such, Victor’s Bankruptcy was set aside.
The strict statutory life of a Creditor’s Petition was a matter of substance and so the Court could not remedy the order by treating it as a procedural slip up.
While the Court gave various reasons for reaching this decision, a key consideration was policy and public interests – saying that there must be no uncertainty surrounding the timeframes during which a Creditor’s Petition is enforceable given its fundamental consequences.
Lessons learned
These recent decisions are timely reminders for those who work in this space of the nuances and technicalities involved, and how easy it is for those unfamiliar with the regime to come unstuck! Absolute technical compliance is required not because the law and Courts are just fussy. Insolvency law will fundamentally change the legal status and rights of many people and if the insolvency regime is to be used, it must only occur in the clearest of situations. As such, strict compliance is required to satisfy the Courts that the insolvency provisions and so their consequences, are properly invoked.
*James Neate LICM CCE Partner Lynch Meyer Lawyers T: 0418 844 042 E: jneate@lynchmeyer.com.au
*Alice Carter MICM CCE Partner Lynch Meyer Lawyers T: 0430 368 840 E: acarter@lynchmeyer.com.au
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