FEDERAL COURT OF AUSTRALIA

Kyriackou v Shield Mercantile Pty Ltd (No 2) [2004] FCA 1338

BANKRUPTCY – sequestration order made – claim that bankruptcy notice invalid – Federal Magistrate rejected claim – appeal allowed – bankruptcy notice failed to comply with prescribed form – notice invalid – Official Trustee incurred “costs, charges and expenses” in administering bankrupt estate – whether appropriate simply to set aside sequestration order – whether bankruptcy should be annulled so that Official Trustee can recoup costs and expenses pursuant to s 154(1)(b) and (2) of the Bankruptcy Act 1966 (Cth)

Bankruptcy Act 1966 (Cth) ss 153B, 154(1)(b) and 154(2)

Federal Court of Australia Act 1976 (Cth) s 35A(5)

Federal Magistrates Act 1999 (Cth) s 104(2)

Federal Proceedings (Costs) Act 1981 (Cth) s 6

Bankruptcy Regulations 1996 reg 16.07A

Kleinwort Benson Australia Limited v Crowl (1988) 165 CLR 71 at 81-82 referred to

American Express International Inc v Held (1999) 87 FCR 583 at 585 referred to

Turner v Trevorrow (1994) 49 FCR 566 referred to

Marshall v General Motors Acceptance Corporation Australia (2003) 127 FCR 453 referred to

Ivanhoe Grammar School v Raschilla [2003] FMCA 30 referred to

The Austral Brick Company Pty Ltd v Daskalovski [1998] FCA 782 discussed

Symons v Bateman [1999] FCA 658 discussed

Re Anasis; Ex parte Total Australia Ltd (1985) 11 FCR 127 referred to

Wenkart v Pantzer (2003) 132 FCR 204 at 207 referred to

MICHAEL KYRIACKOU v SHIELD MERCANTILE PTY LTD (ACN 082 737 442) and OFFICIAL TRUSTEE IN BANKRUPTCY

V960 OF 2003

WEINBERG J

22 OCTOBER 2004

MELBOURNE

THE COURT ORDERS THAT:

1.         The appeal against the order of the Federal Magistrate made on 8 October 2003 be allowed.

2.         The sequestration order of the Registrar made on 26 June 2003 be set aside.

3.         The creditor’s petition be dismissed.

4.         The first respondent pay the appellant’s costs of and incidental to the review proceeding before the Federal Magistrate, and the appeal to this Court.

5.         There be no order as to the second respondent’s costs of and incidental to these proceedings.

6.         The first respondent be granted a costs certificate in respect of the appeal pursuant to s 6(1) of the Federal Proceedings (Costs) Act 1981 (Cth).

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

REASONS FOR JUDGMENT

1                     On 26 April 2004, I delivered judgment in an appeal from a Federal Magistrate in this matter:  Kyriackou v Shield Mercantile Pty Ltd [2004] FCA 490.  I determined that the Federal Magistrate had erred in rejecting a challenge to the validity of a bankruptcy notice issued by the Official Receiver on behalf of the first respondent.  That bankruptcy notice formed the basis of a creditor’s petition in the Federal Magistrates Court arising out of the appellant’s failure to pay the sum demanded, and led to the making of a sequestration order on 26 June 2003 against the appellant’s estate. 

2                     In my primary judgment, I held that the bankruptcy notice was invalid, and ought therefore to have been set aside.  At the request of the parties, including in particular the Official Trustee in Bankruptcy (“the Official Trustee”), I deferred making any final orders until submissions were made as to the form those orders should take. 

3                     The Official Trustee did not participate in the substance of the appeal.  He sought to be heard only as to the consequences of the appeal being allowed. 

4                     The appellant submitted that the orders that should be made, having regard to the outcome of the appeal, were as follows:

(a)        the appeal be allowed;

(b)       the sequestration order of the Registrar made on 26 June 2003 be set aside;

(c)        the creditor’s petition be dismissed;

(d)       the first respondent pay the appellant’s costs of and incidental to the review proceeding before the Federal Magistrate, and the appeal to this Court; and

(e)        the first respondent pay the second respondent’s costs of and incidental to those proceedings and also the second respondent’s costs and expenses consequent upon the making of the sequestration order on 26 June 2003.

5                     Alternatively, the appellant submitted that orders (a) to (d) be made, but order (e) be varied so that the Official Trustee bear his own costs of and incidental to the relevant proceedings, and also his own costs and expenses consequent upon the making of the sequestration order.

6                     The appellant submitted that having been successful in the appeal to this Court, he was entitled to his costs, at least from 10 July 2003, that being the date on which he filed his notice of intention to oppose the application or petition, and identified the critical deficiency in the bankruptcy notice.  Given that the bankruptcy notice failed to meet a requirement made essential by Bankruptcy Act 1966 (Cth) (“the Act”), and was therefore invalid, the failure to comply with that notice did not constitute an act of bankruptcy: Kleinwort Benson Australia Limited v Crowl (1988) 165 CLR 71 at 81-82 per Deane J, and American Express International Inc v Held (1999) 87 FCR 583 at 585.  Accordingly, any bankruptcy proceedings based upon that notice were irregular, and the sequestration order made by the Registrar ought to be set aside. 

7                     The appellant did not seek to have the bankruptcy annulled, pursuant to s 153B of the Act.  Indeed, he strenuously resisted the Official Trustee’s contention that that was the appropriate course to be adopted. 

8                     Section 153B provides:

“(1)     If the Court is satisfied that a sequestration order ought not to have been made or, in the case of a debtor's petition, that the petition ought not to have been presented or ought not to have been accepted by the Official Receiver, the Court may make an order annulling the bankruptcy.

(2)       In the case of a debtor's petition, the order may be made whether or not the bankrupt was insolvent when the petition was presented.”

9                     The appellant argued that it was often the case that where a sequestration order had been made, and was later shown to have been invalid, the Court had simply set aside the sequestration order, rather than annulling the bankruptcy.  That was so even where the estate had been under administration for a significant period.  He cited Turner v Trevorrow (1994) 49 FCR 566 and Marshall v General Motors Acceptance Corporation Australia (2003) 127 FCR 453 as examples. 

10                  The appellant submitted that where the Court was exercising its power of review under s 35A(5) of the Federal Court of Australia Act 1976 (Cth), or the Federal Magistrates Court was exercising its power of review under s 104(2) of the Federal Magistrates Act 1999 (Cth), both courts had the power to set aside a sequestration order and dismiss a petition.  The hearing on review was a hearing de novo, and the reviewing court was required to exercise its own discretion in determining whether or not to make the sequestration order. 

11                  The appellant also submitted, albeit without any apparent conviction, that having concluded that the bankruptcy in the present case was founded upon an invalid bankruptcy notice, there was no power to annul the bankruptcy because there was no bankruptcy to annul.  In addition, the appellant contended that the procedural prerequisites to the exercise of the power conferred by s 153B had not been complied with.  He referred, in that regard, to O 77 rr 42-45.  He submitted that it was inappropriate for the Official Trustee to rely upon an artifice, namely the use of s 153B, in order to recover its costs. 

12                  The appellant submitted that the Court had power to order the first respondent not only to pay the Official Trustee’s costs of the litigation, but also any expenses incurred by him in administering the bankrupt estate.  The only reason that the Official Trustee had incurred those expenses was because the first respondent had obtained a sequestration order grounded upon a defective bankruptcy notice.  In those circumstances, the first respondent should meet any such expenses. 

13                  In the alternative, it was submitted that the Official Trustee should bear his own costs, including any expenses incurred by reason of the sequestration order having been made.  Once the appellant had initiated a review of the Registrar’s decision, the Official Trustee ought to have appreciated that he should proceed with caution.  Moreover, at least from the date upon which the appellant filed his notice of intention to oppose, the Official Trustee should have looked closely at the terms of the bankruptcy notice, and perceived the obvious defect therein.  It was the Official Receiver, an entity closely related to the Official Trustee, who issued the defective notice.  Responsibility for that error should therefore rest with the Official Trustee.  Plainly, the consequences of that error should not be visited upon the appellant.

14                  Finally, the appellant submitted that there should not be any apportionment of costs merely because he had ultimately withdrawn, or failed to pursue, a number of the grounds raised in his notice of intention to oppose.  The bankruptcy notice was a nullity, and therefore the entire proceeding initiated on the basis of that notice was irregular.  The appellant should have his costs in accordance with the ordinary rules.

15                  The Official Trustee submitted that the orders sought by the appellant were not appropriate.  In particular, he submitted that the Court should not set aside the sequestration order, and dismiss the petition, without also ordering that the bankruptcy be annulled pursuant to under s 153B of the Act.  The reason was that the failure to annul the bankruptcy would deprive the Official Trustee of any opportunity to recoup the costs expended in administering the appellant’s estate after the sequestration order had been made, apart from any rights that he might have to bring separate proceedings to recover those costs.

16                  It was submitted that if the sequestration order were simply set aside, and the petition dismissed, apart from a possible equitable lien over the appellant’s assets, or the institution of fresh proceedings, there would be no possibility of the Official Trustee recouping those expenses.  It was submitted that the Court did not have any power to order that a party to the litigation pay such expenses, as distinct from the ordinary costs of the proceedings.  Thus, the Official Trustee might be left out of pocket simply because he had carried out his duties as ordered by the Registrar, and as required by the Act. 

17                  It was submitted that when confronted with a dilemma of this kind, the Court had previously ordered that the bankruptcy be annulled, rather than simply setting aside the sequestration order.  If annulment were ordered, s 154(1)(b) and s 154(2) would enable the Official Trustee to apply any property of the former bankrupt still vested in him in payment of the costs, charges and expenses of the administration of the bankruptcy, including his remuneration and expenses.  If the property were insufficient to meet those amounts, the deficiency would be a debt owing by the former bankrupt that would be recoverable in an action brought in a court of competent jurisdiction.  However, if a sequestration order were simply set aside, there was no power under any provision equivalent to s 154 that was capable of being invoked.

18                  The Official Trustee noted that just such an approach had been adopted by McInnis FM in Ivanhoe Grammar School v Raschilla [2003] FMCA 30.  In that case, a Registrar of the Federal Magistrates Court made a sequestration order against a debtor on 7 November 2002, and the trustee was appointed on the same day.  The debtor applied for a review of the Registrar’s decision pursuant to s 104 of the Federal Magistrates Act.  She claimed, inter alia, that she had not appreciated the significance of the creditor’s petition when it was served upon her.  When the application for review came on for hearing on 9 December 2002 before the Federal Magistrate, the creditor and the debtor had settled the matter between them and agreed that the sequestration order should be set aside.  However, his Honour permitted the trustee to be heard on the question of his expenses incurred in administering the estate after 7 November 2002.  He concluded that the trustee, having acted with due diligence in accordance with his obligations under the Act, and having incurred expenses that seemed reasonable, ought to be given the opportunity to be reimbursed for those expenses.  He therefore annulled the bankruptcy, rather than simply setting aside the sequestration order, solely to permit s 154 of the Act to come into play. 

19                  In the present case, the Official Trustee submitted that although as a matter of fairness, the first respondent ought to bear the costs incurred in the course of administering the estate, the Court did not have power to make such an order.  The only way in which those costs could be recouped would be pursuant to s 154(1)(b), whereby the expenses would be recovered from the formerly bankrupt estate.  However, that required an order that the bankruptcy be annulled. 

20                  The Official Trustee drew attention to two decisions, The Austral Brick Company Pty Ltd v Daskalovski [1998] FCA 782 per Emmett J (“Austral”) and Symons v Bateman [1999] FCA 658 per French J (“Symons”). 

21                  In Austral, it was accepted that the Court had power pursuant to O 35 r 7 to make an order setting aside a sequestration order made in the absence of the debtor in circumstances where the debtor had not been served with the creditor’s petition.  However, Emmett J concluded that it was inappropriate to make an order under that rule where the estate had already been administered in bankruptcy.  His Honour reasoned as follows:

“In the circumstances I am satisfied that the sequestration order ought not to have been made and accordingly I propose to make an order pursuant to section 153B of the Act annulling the bankruptcy.

I should add that I would have been satisfied that the Court has jurisdiction and power pursuant to Order 35 Rule 7 to make an order setting aside the sequestration order made in the absence of the Debtor in circumstances where the Debtor was not served with the petition.  However, it seems to me inappropriate to make an order under that rule where the estate has already been administered in bankruptcy, as is the case here.

The Act, and the rules made under the Act which have now been incorporated into the Federal Court Rules, provide for the protection of creditors in the event of an order being made under section 153B.  There is no similar regime applicable specifically for the setting aside of an order or a judgment pursuant to Order 35 Rule 7.  That is not to say that, in an appropriate case, the power contained in Order 35 Rule 7 ought not to be exercised.  However, such a power would normally be exercised in circumstances where the matter comes before the Court very soon after the order has been made and before there has been any administration in bankruptcy pursuant to a sequestration order.”

22                  It was submitted that in Symons, French J had adopted a similar approach.  This was also an application by the debtors to set aside sequestration orders made against them on 8 February 1999 on the basis that they believed that the parties had agreed that the creditor would not proceed with the petition until after an appeal to the Full Court of the Supreme Court had been resolved.  French J heard the application pursuant to O 35 r 7.  When the matter came on for hearing, the Court was informed that the parties had agreed that the sequestration orders should be set aside.  However, the trustee sought orders preserving his entitlement to remuneration and costs, and submitted that a preferable order would be to annul the bankruptcy under s 153B.  French J declined to set aside the sequestration order, and adjourned the matter so that consideration could be given to whether the bankruptcy should be annulled, rather than the sequestration order simply being set aside. 

23                  The Official Trustee submitted that, in the light of these authorities, the Court should annul a bankruptcy rather than simply set it aside in circumstances where a trustee has carried out work in administering the estate.  That was so, even if the ramifications of such an order might be considered unfair to the debtor. 

24                  The Official Trustee then pressed his application for annulment.  He acknowledged that O 77 rr 42-45 set out the formal requirements for an application to annul a bankruptcy, and that these requirements had not been met.  Nonetheless, the Court had power to dispense with these rules, and should do so.  There was no point in requiring the Official Trustee to file and serve a fresh application for annulment given that all parties had been aware throughout that annulment was being sought. 

25                  With regard to the appellant’s contention that he should have proceeded with caution once it became clear that the sequestration order was opposed, and that a review of any such order would be sought, the Official Trustee submitted that having been appointed by the Court, he had a statutory obligation to administer the estate.  It was not his responsibility to undertake any assessment of whether there had been a defect in the bankruptcy process.  His duty was simply to carry out his statutory functions. 

26                  As regards the contention that the bankruptcy notice contained “an obvious defect”, the Official Trustee submitted that this was far from true.  Moreover, it was not his responsibility to scrutinise the notice, or form any view about its validity. 

27                  With regard to the appellant’s submission that there was no power to annul the bankruptcy because there was no bankruptcy to annul, the Official Trustee noted that a similar argument had been considered and rejected in Re Anasis; Ex parte Total Australia Ltd (1985) 11 FCR 127 per Burchett J.  There it was held that even when a sequestration order is set aside, the Court can go on and annul the bankruptcy. 

28                  Finally, the Official Trustee submitted that if the appellant’s contentions were accepted, there would be serious repercussions with regard to the important task of administering bankrupt estates.  Whatever alternative the Official Trustee chose, he could not win.  If he acted in accordance with his statutory obligations, and proceeded to administer the estate, he might be unable to recoup his expenses if the sequestration order were later set aside.  Conversely, if he refused to administer the estate because he thought the sequestration ought not to have been made, or feared the outcome of a challenge to that order, he might find himself liable in damages for breach of duty.  In the case of a public official who had performed his or her statutory duties in a diligent manner, that result would be intolerable.  In all the circumstances, the Official Trustee submitted that the first respondent should pay his costs of and incidental to both the review proceeding and the appeal, and that the bankruptcy should be annulled thereby enabling him to recover any expenses incurred in administering the estate from the appellant without having to contemplate issuing fresh proceedings. 

29                  The first respondent submitted that, having regard to the outcome of the appeal, the appropriate orders were:

(a)        that the orders of the Federal Magistrate made on 8 October 2003 be set aside;

(b)       that the sequestration order made against the appellant’s estate on 26 June 2003 be set aside;

(c)               that the creditor’s petition be dismissed;

(d)               that the first respondent pay the appellant’s costs of the application for review of the sequestration order, and the appeal to this Court, insofar as they relate to the question of the validity of the bankruptcy notice;

(e)               that the appellant pay the first respondent’s costs of the petition and the application for review of the sequestration order except insofar as they relate to the question of the validity of the bankruptcy notice; and

(f)                 that the first respondent be granted a costs certificate in respect of the appeal pursuant to s 6 of the Federal Proceedings (Costs) Act 1981 (Cth).

30                  In substance, the first respondent contended that any costs order made against it arising out of the review proceeding should be apportioned.  The basis of that submission was that the appellant had abandoned or failed to pursue a number of the issues that were originally canvassed in his notice of intention to oppose application or petition dated 10 July 2003.  These included his claims that he was not indebted to the first respondent, and that he was able to pay his debts as and when they fell due.  It was also originally anticipated that the appellant would seek to set aside the original Magistrates Court judgment on which the bankruptcy was based, but that did not eventuate. 

31                  It was submitted on behalf of the first respondent that a great deal of the time taken up before the Federal Magistrates Court, and the steps taken in the review proceeding, including a number of adjournments, resulted from claims that the appellant had either abandoned or failed to make good.  The validity of the bankruptcy notice was argued before the Federal Magistrate as a preliminary matter on 8 September 2003.  After his Honour determined that issue against the appellant, the matter was listed for further hearing on the question of solvency, and the other remaining grounds of opposition to the petition.  Having put the first respondent to the significant expense of dealing with these further grounds, they were ultimately abandoned.  That of itself justified an apportionment of the costs of the review application. 

32                  The first respondent then submitted that there should be no order requiring it to pay the costs of the Official Trustee, whether on the application for review, or on the appeal.  The first respondent had not sought to join the Official Trustee to the appeal.  Nor did it invite his participation.  The appeal concerned the validity of the first respondent’s bankruptcy notice, and the Official Trustee only became involved so that he could pursue his own separate application that the bankruptcy be annulled.  That was a matter that had nothing to do with the first respondent. 

33                  Although the first respondent disclaimed any real interest in whether the appropriate disposition of the appeal involved setting aside the sequestration order, or whether an annulment was appropriate, it did note that in Symons, French J at [11] expressed “serious reservations” about the Court’s power to entertain an application by a trustee for an order annulling a bankruptcy as an incident of setting aside a sequestration order.  The first respondent submitted that in a case where there had been substantial administration of a bankruptcy it might be appropriate to make an annulment order instead of, or possibly in addition to, setting aside a sequestration order.  However, this would not ordinarily be appropriate where a sequestration order made by a Registrar pursuant to delegated power was reviewed by the Court within the short time contemplated by s 35A(5) of the Federal Court of Australia Act or s 104(2) of the Federal Magistrates Act.  In that connection, it was said to be relevant that an application to review a sequestration order had to be brought within twenty-one days, whereas an application to annul a bankruptcy could be brought at any time prior to discharge. 

34                  In addition, the first respondent submitted that the Official Trustee actually had a right of indemnity in respect of expenses of administering the estate which was secured by an equitable lien.  In effect, the Official Trustee had a right of indemnity against trust assets, and was not in the position of a mere unsecured creditor.  However, the equitable lien applied only in respect of costs and expenses incurred in administering the estate.  It would not provide the Official Trustee with any preferred rights in relation to his remuneration.  The question of remuneration was governed by statute:  see ss 161B, 162, 163A and 167 of the Act and reg 16.07A of the Bankruptcy Regulations 1996.  In particular, it was noted that sub-regulation 16.07A(2) provides that the Official Trustee is only entitled to remuneration if the assets in the bankrupt estate have been realised.  Obviously, that had not occurred in the present case. 

conclusion

35                  There are, unfortunately, some cases in which, irrespective of the outcome, an injustice may result.  This may be one such case. 

36                  Mr Kyriackou, as the successful appellant in this proceeding, is plainly entitled to recover his legal costs against the first respondent.  Those costs include both the costs of the proceeding before the Federal Magistrate, and the costs of the appeal.  The fact that the appellant abandoned some of the grounds upon which he initially relied in the proceeding before the Federal Magistrate might, in some circumstances, justify an apportionment of the costs incurred below.  However, the central fact is that the bankruptcy notice upon which the sequestration order was based was invalid.  That is a matter for which the first respondent must take full responsibility, and in relation to which the first respondent should pay the appellant’s costs. 

37                  The next question that arises is whether the Official Trustee, as second respondent to this appeal, is entitled to any order for costs arising out of the appeal.  The Official Trustee chose to be represented in the appeal in order to advance arguments relating to the costs that he had incurred in administering the estate, and in relation to his remuneration.  He did not participate in the substance of the appeal.  In my view, there should be no order as to the Official Trustee’s costs relating to the appeal. 

38                  The final and most difficult issue to be determined is whether, as the appellant contends, the sequestration order should simply be set aside, or whether, as the Official Trustee contends, the bankruptcy should be annulled. 

39                  In the normal course, it would be appropriate simply to allow the appeal, set aside the sequestration order, and leave the Official Trustee to pursue whatever remedies he might have under the Act, or by virtue of the general law, in order to recoup expenses incurred.  It is highly unlikely that the Court has power to order the first respondent to meet these costs, given that they do not arise out of the litigation itself. 

40                  It would be quite wrong, in my view, to burden Mr Kyriackou, who is the successful appellant in this proceeding, with the costs of administering a bankrupt estate that should never have been made the subject of a sequestration order.  Regrettably, that leaves the Official Trustee with no obvious and immediate recourse against either the appellant, or the first respondent.  It also leaves him with what might be considered to be a legitimate sense of grievance.  He may be out of pocket for doing no more than what he was required by statute to do.

41                  It might be thought that the Act is deficient in failing to provide for the summary recovery by a trustee of the costs of administering an estate, and his or her reasonable remuneration, in circumstances where a sequestration order has had to be set aside.  Perhaps the party responsible for those costs having been unnecessarily incurred, in this case the first respondent, ought to be summarily liable for them.  There may be some cases, in which it will be appropriate to annul a bankruptcy under s 153B, thereby triggering the operation of s 154, rather than setting aside a sequestration order.  Certainly, Emmett J took that approach in Austral.  French J, in Symons, was prepared to contemplate a similar course, though not without reservations.  In my opinion, this is not such a case.

42                  It seems to me that a trustee who administers a bankrupt estate, in the knowledge that the bankrupt is challenging the validity of the sequestration order, must exercise caution when incurring expenses whilst the status of the bankruptcy remains uncertain.  I can well understand why, in Austral, given the facts of that case, involving as it did a resolution of a dispute between a debtor and a creditor, Emmett J concluded that it was appropriate to order the annulment of the bankruptcy, rather than simply setting aside the sequestration order.  There was something to be said for making the putative bankrupt’s estate meet the costs needlessly thrown away, particularly given the fact that there had been a short administration.  The argument for fixing the estate with the costs and expenses of the administration seems to me to be less cogent when the putative bankrupt should never have been the subject of a sequestration order in the first place.  That is particularly so when the sequestration order is based upon a bankruptcy notice that has always been attacked as invalid.

43                  In this case, a balance must be struck between the rights of the appellant, who should never have been made bankrupt in the first place, and the Official Trustee, who has simply done what the Act requires him to do.  In my view, the particular circumstances of this case require that that balance tilt in favour of the appellant.  It follows that the Official Trustee must bear his own costs and expenses of the administration unless he elects to institute proceedings to recover them:  see generally Wenkart v Pantzer (2003) 132 FCR 204 at 207.  That is a matter for the Official Trustee.  It does not fall within the ambit of any costs order that can properly be made in relation to this appeal. 

44                  The first respondent has sought an order that there be a costs certificate granted in respect of the appeal pursuant to s 6 of the Federal Proceedings (Costs) Act 1981 (Cth).  I consider that a certificate should be granted, and I will order accordingly. 

Associate:

Dated:              22 October 2004