FEDERAL COURT OF AUSTRALIA

BANKRUPTCY – application for leave to proceed against undischarged bankrupts – whether prospective claims could amount to “provable debts” – allegations of “breach of trust” within s 82 and “fraud or a fraudulent breach of trust” within s 153(2)(b).

Bankruptcy Act 1966, ss 58(3), 82, 153(1)

Chittick v Maxwell (1993) 118 ALR 728

Ex parte Llynvi Cole and Iron Co; re Hide (1871) LR 7 Ch App 28

Britter v Sprigg (1900) 26 VLR 65

Cutten and Harvey v Mount (1988) 14 ACLR 662

Re Vassis; ex parte Leung (1986) 9 FCR 518

Re Rose; ex parte Devaban Pty Ltd (unreported, Federal Court, Hill J, 7 October 1994)

Re Veghelyi; Smith and Others v Official Trustee in Bankruptcy (1993) 45 FCR 413

RE:  IN THE MATTER OF THE BANKRUPT ESTATE OF PETER LYLE SHARP; EX PARTE: tietyens investments pty ltd (in liquidation) (receiver and manager appointed) & anor v THE OFFICIAL TRUSTEE (as trustee of the bankrupt estate of Peter Lyle Sharp)

RE:  IN THE MATTER OF THE BANKRUPT ESTATE OF GEOFFREY JAMES ROMERO; EX PARTE: tietyens investments pty ltd (in liquidation) (receiver and manager appointed) & anor v THE OFFICIAL TRUSTEE (as trustee of the bankrupt estate of Geoffrey James Romero)

RE: IN THE MATTER OF THE BANKRUPT ESTATE OF PAUL MAURICE ROBB; EX PARTE: TIETYENS INVESTMENTS PTY LTD (IN LIQUIDATION) (RECEIVER AND MANAGER APPOINTED) & ANOR v MAX CHRISTOPHER DONNELLY (as trustee of the bankrupt estate of Paul Maurice Robb)

VG 7795 of 1998

VG 7797 of 1998

VG 7796 of 1998

WEINBERG J

MELBOURNE

26 OCTOBER 1998

vg 7795 OF 1998

vg 7797 OF 1998

VG 7796 OF 1998

THE COURT ORDERS THAT:

1.                  The applicants be given leave pursuant to s 58(3)(b) of the Bankruptcy Act 1966 to commence proceedings against [the bankrupt] in the Supreme Court of Victoria, such proceedings to be instituted on or before 2 February 1999.

2.                  Any statement of claim against [the bankrupt] shall be substantially in the form of the draft statement of claim contained in annexure “L5” to the affidavit of David John Frank Lombe sworn 8 October 1998.

3.                  The contents of that annexure shall remain confidential until 2 February 1999.

4.                  The costs of this application shall be the liquidator’s costs in the winding-up of Tietyens Investments Pty Ltd.

Note:  Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.

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VG 7796 OF 1998

REASONS FOR JUDGMENT

There are before the Court three applications pursuant to s 58(3)(b) of the Bankruptcy Act 1966 in which the applicants, Tietyens Investments Pty Ltd (In Liquidation) (Receiver and Manager Appointed) and David John Frank Lombe (in his capacity as Liquidator of Tietyens Investments Pty Ltd) (In Liquidation) (Receiver and Manager Appointed) seek the leave of the Court to commence legal proceedings against Messrs Peter Lyle Sharp, Geoffrey James Romero and Paul Maurice Robb, three individuals who are presently undischarged bankrupts. The dates of their individual bankruptcies were as follows:  Sharp - 17 July 1997, Romero - 4 August 1997, and Robb - 6 August 1997.

The applicants also seek orders that a particular annexure to the affidavit of David John Frank Lombe, sworn 8 October 1998, and marked “L5”, be treated as confidential.  That annexure contains a draft statement of claim which, if leave be granted to commence the proceedings, it is proposed will issue against, and be served upon, each of the prospective defendants.

The respondents to this application are the trustees of the bankrupt estate of each of the individuals concerned.  They have been given notice of the present applications, but have chosen not to appear.  Their stated position is that they neither consent to, nor oppose, these applications.

Background

It is unnecessary to set out in any detail the complex background to the applications before the Court.  Each of the individuals against whom it is proposed to institute proceedings at one time carried on business as solicitors in Albury, in New South Wales, under the name Tietyens Solicitors.  On 19 December 1996, Mr Lombe was appointed receiver of the property of each of these individuals.  A few days later, on 23 December 1996, Mr Lombe was appointed receiver and manager of Tietyens Investments Pty Ltd.  On 10 March 1998 he was appointed liquidator of Tietyens Investments Pty Ltd, and of an associated company, Highbury Gardens Pty Ltd.  At all material times, Messrs Sharp, Romero, and Robb were directors and shareholders of Tietyens Investments Pty Ltd. 

Mr Lombe’s contentions

Mr Lombe has sworn an affidavit dated 8 October 1998 in which he deposes to having conducted an extensive investigation into the affairs of Tietyens Solicitors and Tietyens Investments Pty Ltd.  Tietyens Solicitors operated a mortgage lending practice which in recent years, expanded substantially.  Loans on behalf of clients/investors were made through Tietyens Investments Pty Ltd which held the relevant mortgage securities in its own name on trust for the various investors of whom there were approximately 1,000.  About one-third of the mortgage practice was in good order, with the terms of the relevant mortgages being complied with by the borrowers.  Mr Lombe has sold that part of the mortgage practice to a Victorian firm of solicitors, after first calling for tenders.

Tietyens Investments Pty Ltd owes its investors an amount of approximately $46 million.  Its assets have realised an amount substantially less than that.  In practical terms, its only asset is a debt owed to it by Highbury Gardens Pty Ltd.  That debt was secured by various first mortgages to Tietyens Investments Pty Ltd. 

To understand how Tietyens Investments Pty Ltd, on behalf of its approximately 1,000 contributors, came to be owed approximately $46 million by Highbury Gardens Pty Ltd requires a detailed examination of a number of very complex transactions.  It is sufficient for present purposes, however, to say that over a period of several years commencing from about May 1993, Tietyens Investments Pty Ltd made a series of loans which Mr Lombe contends were in breach of relevant lending authorities which the company held from those investors by whom funds were made available.  The size of these loans increased greatly over time.  They were never, at any stage, fully or appropriately secured.  Such security as was obtained initially was ultimately diminished, or dissipated entirely, by the actions of the three individuals in question, acting in their capacity as directors of Tietyens Investments Pty Ltd, and partners in the firm of Tietyens Solicitors. 

Mr Lombe states that in the latter half of 1997 he conducted a public examination (with the approval of the Australian Securities Commission) pursuant to the Corporations Law.  He examined some twenty persons, including Messrs Sharp, Romero and Robb.  The examination continued over a period of some twenty days.  Throughout 1997 Mr Lombe realised the securities held by Tietyens Investments Pty Ltd over various properties.  These properties realised almost $13 million resulting in a deficiency of approximately $33 million.

Mr Lombe deposes that his investigations have revealed that during the relevant period Messrs Sharp, Romero and Robb all breached their statutory and fiduciary duties to Tietyens Investments Pty Ltd and to the contributors of that company.  The claims against these three individuals have been formulated in a draft statement of claim, settled by senior and junior counsel.  Mr Lombe says that though the statement of claim is presently still in draft form, it is substantially in the form that will be followed if leave is granted to proceed against the three prospective defendants.  A copy of the draft statement of claim is annexed to Mr Lombe’s affidavit, and marked “L5”.  It is that draft statement of claim which Mr Lombe seeks to have remain confidential, at least for the present.

The claims against Messrs Sharp, Romero and Robb include breaches of statutory duty contrary to s 232 of the Corporations Law, and breaches of their duties under common law and equity as directors and fiduciaries.  Mr Lombe states that he has been advised by counsel that so far as the claims against these three individuals are concerned, they are provable debts in their bankrupt estates because they involve liabilities which were in existence at the date of their bankruptcies, and although in the nature of unliquidated damages, they arise by reason of breach of trust.  Insofar as these liabilities are based upon claims for breach of fiduciary duty they are also provable debts because they are said to arise by reason of a contract to which the three individuals were party. 

Moreover, Mr Lombe deposes to having been advised by counsel that by operation of s 153(1) of the Bankruptcy Act, to the extent that the claims against the three individuals allege  debts incurred by means of fraud or a fraudulent breach of trust to which those individuals were party, then upon their respective discharges from bankruptcy, these debts are not released.

Finally, Mr Lombe deposes that his investigations have revealed that at all material times Messrs Sharp, Romero and Robb all held professional indemnity insurance with Law Cover Pty Ltd, a professional indemnity insurer based in New South Wales.  It is not unlikely that if proceedings are brought against the prospective defendants, the insurer will resist being fixed with any liability to indemnify those individuals. 

The relevant legislative provisions

Section 58(3) of the Bankruptcy Act 1966 provides as follows:

“Except as provided by this Act, after a debtor has become a bankrupt, it is not competent for a creditor:

(a)               to enforce any remedy against the person or the property of the bankrupt in respect of a provable debt; or

(b)               except with the leave of the Court and on such terms as the Court thinks fit, to commence any legal proceeding in respect of a provable debt or take any fresh step in such a proceeding.”

Section 82 provides:

“(1)     Subject to this Division, all debts and liabilities, present or future, certain or contingent, to which a bankrupt was subject at the date of the bankruptcy, or to which he or she may become subject before his or her discharge by reason of an obligation incurred before the date of the bankruptcy, are provable in his or her bankruptcy.

(2)       Demands in the nature of unliquidated damages arising otherwise than by reason of a contract, promise or breach of trust are not provable in bankruptcy.”

Section 153(2) provides in part:

“The discharge of a bankrupt from a bankruptcy does not:

…

(b)              release the bankrupt from a debt incurred by means of fraud or a fraudulent breach of trust to which he or she was a party or a debt of which he has obtained forbearance by fraud;

…”

Conclusion

In my opinion leave should be granted to the applicants to commence legal proceedings against the three individuals named as prospective defendants.  The claims which have been foreshadowed in the draft statement of claim, though demands in the nature of unliquidated damages, seem to me to be “provable debts” as defined in subs 82(1) and 82(2) of the Act.  These claims are based in part at least upon the contractual relationship which existed between those individuals and those who ultimately lost their investments.  They therefore arise “by reason of a contract”. 

They also appear to me to involve allegations of “breach of trust”.  In Chittick v Maxwell (1993) 118 ALR 728 Young J at 738-739 explained the operation of s 82 of the Bankruptcy Act.   His Honour emphasized the width to be accorded to the concept of a debt or liability provable in bankruptcy in that section.  His Honour’s analysis of Ex parte Llynvi Cole and Iron Co; re Hide (1871) LR 7 Ch App 28 at 31-32 per James LJ; Britter v Sprigg (1900) 26 VLR 65 at 82; Cutten and Harvey v Mount (1988) 14 ACLR 662 at 667, and Re Vassis; ex parte Leung (1986) 9 FCR 518 at 527 provides a cogent rationale for the modern tendency to give a narrow interpretation to the exclusionary aspect of s 82(2).  Claims of the type which are presently contemplated in the draft statement of claim involve allegations of moral turpitude and breach of fiduciary obligation on the part of each of the three prospective defendants.  They are, therefore, allegations of “breach of trust” within the meaning of that expression in s 82(2). 

The claims also involve allegations of “fraud, or a fraudulent breach of trust” within the meaning of each of those expressions in s 153(2)(b).  If any of Messrs Sharp, Romero or Robb were ever at any time in the future to come into funds this section would operate to preserve the rights of those claiming to have been defrauded by their conduct to gain access to those funds.  The discharge of these individuals from bankruptcy would not release them from any debts so incurred.  It follows that the proposed litigation may be seen as justifiable, both commercially and morally, whether or not the indemnity insurer is found liable ultimately to indemnify these individuals.

The principles which govern the exercise of the discretion conferred upon the Court by s 58(3) are set out in a helpful manner in Re Rose; ex parte Devaban Pty Ltd (unreported, Federal Court, Hill J, 7 October 1994).  Applying those principles, I am satisfied that the proceedings contemplated by the applicants which will, when instituted, include as defendants a number of corporate entities and individuals who are alleged to have acted in complicity with Messrs Sharp, Romero and Robb, cannot effectively be prosecuted without the active participation of those three individuals, in person. 

The policies which lie behind s 58(3) of the Act and which are (a) to free the bankrupt from any claims that might be made in respect of the period prior to bankruptcy, (b) to permit the trustee in bankruptcy, if he accepts the proof of debt, to treat the claim against the estate as he treats the claims of all other creditors, and (c) to ensure that the trustee is not put to expense in defending proceedings which he has no money to defend, all readily accommodate the granting of leave in the present circumstances.  The claims against the three individuals are potentially of vital importance to any prospects which the investors have of recovering any significant amounts to compensate them for the money which they have lost. 

In Re Veghelyi; Smith and Others v Official Trustee in Bankruptcy (1993) 45 FCR 413 Sweeney J granted leave nunc pro tunc to commence proceedings against a solicitor who had become a bankrupt upon his own petition.  The trustee in bankruptcy had, unlike the present case, opposed the application.  The proceedings alleged negligent breach of retainer, and not, as in the present case, fraud.  The case for granting leave in the present circumstances is, by comparison with Veghelyi, overwhelming.

There is no reason why leave should not be granted, and every justification for the Court to exercise its discretion in favour of the grant of such leave.

I propose to make the following orders in relation to each of the three applications before the Court.

5.                  The applicants be given leave pursuant to s 58(3)(b) of the Bankruptcy Act 1966 to commence proceedings against [the bankrupt] in the Supreme Court of Victoria, such proceedings to be instituted on or before 2 February 1999.

6.                  Any statement of claim against [the bankrupt] shall be substantially in the form of the draft statement of claim contained in annexure “L5” to the affidavit of David John Frank Lombe sworn 8 October 1998.

7.                  The contents of that annexure shall remain confidential until 2 February 1999.

8.                  The costs of this application shall be the liquidator’s costs in the winding-up of Tietyens Investments Pty Ltd.

Associate:

Dated:              26 October 1998