This case provided a determination about which of the company creditors was entitled to receive, in priority of other creditors, tax refunds obtained by the liquidator in the course of winding up the company.

Takeaways

Where a lender is relying on receivables, inventory or proceeds of accounts to cover their position, they will need to take care as to where they sit in relation to circulating versus non-circulating assets.

This case provides guidance on how to identify which creditor may have priority entitlement to an asset in a liquidation.

Background

Spitfire Corp Ltd (Spitfire Corporation) was a start up fintech providing wealth management and share analysis platforms. It was part of a corporate structure of 7 companies which divided functions of the overall business amongst those corporate entities.

Aspiro Pty Ltd (Aspiro), was one of those 7 companies which employed the employees who worked in the business operated by the Spitfire Group.

Spitfire Corporation went into liquidation and in the course of the winding up the liquidators applied for and received approximately $2,000,000 in research and development (R&D) tax refunds.

A priority dispute arose between a secured creditor, Resilient Investment Group Pty Ltd (Resilient) registered on the PPSR and the Commonwealth (FEG) as a subrogated creditor of employees entitlements paid to a related company which was created solely to employ all the employees.

The liquidators applied to the Court for directions on how to distribute the refunds as a result of the contested claims.

Determination

There were two relevant provisions of the law that the Court had to consider in deciding who had priority in this case.

The first was section 561 of the Act, which gives priority of payment to unsecured preferred creditors ahead of secured creditors in relation to a circulating security interest.

The query being whether FEG held a priority in respect of payments it had made of employee entitlements, subrogating itself in the place of employees who are preferred creditors of any distribution, ahead of Resilient as a PPSR registered security interest holder over the refund.

The second was section 340 of the PPSA which defines what is a circulating asset in the context of security interests, and whether this classified the refund as a circulating asset or not.

Notably,

“(1) For the purposes of this Act, if a grantor grants a security interest in personal property to a secured party, the personal property is a circulating asset if:

(a) The personal property is covered by subsection (5) (unless subsection (2) or (3) applies); or

(b) In any other case – the secured party has given the grantor express or implied authority for any transfer of the personal property to be made in the ordinary course of the grantor’s business, free of any security interest.

…

(5) The subsection covers the following personal property:

(a) an account that arises from granting a right, providing services, in the ordinary course of a business of granting rights or providing services of that kind (whether or not the account debtor is the person to whom the right is granted or the services are provided).

Section 10 of the PPSA defines “account” to mean:

“a monetary obligation… that arises from:

…

(b) Granting a right, providing services, in the ordinary course of a business of granting rights or providing services of that kind (whether or not the account debtor is the person to whom the right is granted or the services are provided);”

At first instance in the Supreme Court of New Soth Wales, the trial court ordered the liquidators to distribute the refunds to FEG and for Resilient to pay costs.

The Court of Appeal overturned those orders and directed money to be paid to Resilient as secured creditor.

The issues that the Court had to determine were:

(a) was Spitfire Corporation the employer of the employees, when the corporate structure had all the employees contracted to Aspiro, a related company to Spitfire Corporation; and
(b) do amounts owed to a company by the ATO constitute ‘circulating assets’ and how then should they be distributed?

The Court of Appeal found:

Firstly that (FEG) had paid Aspiro, a related company of Spitfire Corporation, employee entitlements.
On the facts before the Court, despite the corporate structuring, the Court foud that Spitfire Corporation was the ‘employer’ of employees for the purposes of section 556(2) of the Act;
Secondly the Court found that the refunds were an ‘account’ as defined in section 340(5)(a) of the PPSA.
The liquidators lodged the returns and application for a refund during the course of their appointment in the process of the winding up to secure the refunds.
Accordingly the refunds were not a ‘monetary obligation’ as defined in the PPSA at the date of appointment.
The Court said that Spitfire Corporation did not have a chose in action for the refunds at the date of appointment as it had not yet lodged its returns as at that date.
Therefore the refunds were personal property of Spitfire Corporation pursuant to section 340(1)(a) of the PPSA.
The Court also found that there was an insufficient causal connection between the refunds and the provision of services in the ordinary course of business.
The Court said to fall within section 340 of the PPSA, the:
- (1a) services must be provided in the ordinary course of business of providing service of that kind; and
- (1b) the account must arise from the provision of services of that description.
In this case Spitfire Corporation’s services were providing financial platforms and, not research and development generating tax offsets.
The lack of a causal connection meant that section 561 of the Corporations Act did not apply.
The Court of Appeal’s reasoning for overturning the first instance decision was split but suggested a framework to consider for future determinations:
- (1a) were the funds a monetary obligation at the appointment date? And
- (1b) whether the entitlement to refunds ‘arises from’ the provision of services in ‘the ordinary course of a business of providing services of that kind’?

Conclusion

It is clear that the law is continuing to be clarified about what will constitute a ‘Security Interest’ under section 12 of the PPSA, when an asset is captured by the PPSA regime and as a result impact on the ability to enforce, or not, rights negotiated between parties.

The frequency of these cases indicates the financial importance of protecting security interests or risk losing the ability to enforce where an administrator is appointed and the rights vest back in the granting company.

Alicia Hill
Principal
T: +61 3 9611 0180 | M: +61 484 313 865
E: ahill@sladen.com.au

Kelvin Tay
Senior Associate
T: +61 3 9611 0148 | M: +61 413 557 157
E: ktay@sladen.com.au