Problematic to presume: issues with reliance on the statutory presumption of insolvency

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25th Mar 2011

In the recent case of Fisher v Divine Homes Pty Ltd; Allen v Harb [2011] NSWSC 8, a liquidator was unable to rely on the presumption of insolvency in 588E(4) of the Corporations Act 2001 (Cth) (the Act) and ultimately fail to make out a voidable transaction claim

Facts

Mr Harb, the sole director of Divine Homes, was convicted of offences for failing to deliver books and records of Divine Homes to the liquidator as required under the Act.

The liquidator commenced proceedings in the NSW Supreme Court against Mr Harb seeking to recover monies paid via cheques drawn on the company's bank account either in favour of Mr Harb, to “cash” or to persons other than Mr Harb with no commercial justification.

The liquidator’s claims against Mr Harb were that:

  • the transactions made by Divine Homes were voidable under section 588FF(1) of the Act; and
  • by instigating Divine Homes to make the payment, Mr Harb was in breach of section 598(2) of the Act and guilty of negligence, default, breach of trust or breach of duty in relation to the company.

Provisions

Section 588FF(1) of the Act states that a transaction of the company may be voidable where an insolvent transaction is entered into. For a presumption of insolvency to arise under s 588E(4), it must be proven either that:

  • no document whatsoever within the “financial records” description was kept in relation to that period; or
  • such documents were deficient as to content, i.e. that they either did not correctly record and explain the company’s transactions and financial position and performance or would not enable true and fair financial statements to be prepared and audited; or
  • the company has failed to retain financial records in relation to a period for the 7 years after the transactions covered by the financial records are completed.

Decision

The Court held that the liquidator proved nothing about the content of the financial records and Barrett J emphasised that it is for the liquidator to prove that the records kept were deficient, not for the director to prove that they were not.

Therefore, the liquidator was limited to attempting to prove Divine Homes failed to “retain” financial records. The liquidator relied on the fact that Divine Homes had not prepared income tax returns, business activity statements, balance sheets or profit and loss accounts for any period since its incorporation. Mr Harb gave evidence that he had in his possession financial records at the commencement of the winding up, however he delivered these to an accountant who along with the documents, could no longer be located.

The Court held that upon giving the documents to his accountant, Mr Harb failed to retain the documents. However at this point, Mr Harb’s powers as a director of Divine Homes were no longer exercisable and the act of delivering the documents to the accountant was not an act of Divine Homes. Barrett J held that it was not possible to identify any “failure” of Divine Homes to retain the documents and accordingly void the transactions.

However, the liquidator succeeded on a claim against the director under s 598(2) of the Act. Justice Barrett held that Mr Harb had caused the company to draw cheques in favour of entities to which funds of Divine Homes were not properly payable. Because the payments were not for the benefit of the company or connected with its affairs, it was a breach of Mr Harb's duty as director to cause and permit the company to make the payments. The Court ordered that Mr Harb repay the monies paid under the cheques to Divine Homes.

Comment

This decision serves as a reminder to liquidators of the potential problems when relying on the statutory presumption of insolvency. Where a liquidator is attempting to rely on supposed defective or non-existent financial records to prove insolvency, the liquidator must have evidence that the records (including invoices, loan agreements and cheque butts) either were deficient in their content, that they were not retained at all during the relevant period or that the records do not exist at all.