16
Aug 2017

Secured Creditors and Bankruptcy: Can you enforce without leave of the Court?

In the recent decision of Morris Finance Ltd v Brown [2017] FCAFC 97, the Full Court of the Federal Court of Australia gave some useful commentary regarding whether an equitable charge holder requires leave of the court to bring a proceeding to enforce its security interest.

Background

In Morris v Brown, the applicant, Morris Finance Ltd (Morris) claimed to be an equitable chargee in respect of land owned by Mr and Mrs Brown pursuant to a commercial goods lease. Mr and Mrs Brown both subsequently became bankrupts. At the time of their bankruptcy, Morris was owed $45,000 under the commercial goods lease. Morris subsequently filed a summons in the Supreme Court of New South Wales against Mr and Mrs Brown and their respective trustees in bankruptcy seeking orders pursuant to section 103(2) Conveyancing Act 1919 (NSW) that, among other things, the Browns’ property be sold and the net proceeds of sale be applied to the costs of the sale, to discharge a mortgage over the property, and to discharge the debt owed under the commercial goods lease.

The Defendants successfully contended before the primary judge that Morris required leave pursuant to section 58 of the Act to proceed with the application. Morris appealed the decision to the Full Court of the Federal Court of Australia.

Section 58 Bankruptcy Act 1966

Pursuant to section 58 Bankruptcy Act 1966 (Cth) (Act) the property of a bankrupt vests in his or her trustee in bankruptcy and creditors are prevented from enforcing any remedy against the bankrupt without leave of the Court. However, section 58(5) of the Act provides an exception to the right of a secured creditor to ‘realize or otherwise deal with his or her security’ . 

What the Full Court said

In determining that Morris did not require leave to bring an application to enforce its equitable charge, the Court made the following points:

  1. The Act does not define “security”, but defines “secured creditor” to include a person holding a mortgage, charge or lien on property of the debtor as a security for a debt due to him or her from the debtor. As such, the broad definition of “secured creditor” did not provide any basis for excluding section 58(5) of the Act from applying to an equitable chargee.
  2.  The question of an equitable charge holder “realizing or otherwise dealing’ with the secured property is a more difficult question as there is no transfer of title or possessory interest conferred by the equitable charge. There is no right of foreclosure and an equitable charge can only be enforced by judicial order for sale.
  3. The words “to realize” are sufficiently broad to capture the judicial process of seeking orders for sale and any consequential orders (such as an ancillary order for vacant possession).
  4. Section 58(5) of the Act does not require that the security interest first be established. However, for proceedings to be captured, they must do more than seek a declaration of the existence of the security interest in order to proceed without leave.

Ultimately, the Full Court found that Morris did not require leave to enforce its equitable charge by way of judicial sale.

Takeaway points

This case serves as a useful reminder of the rights of secured creditors of individuals who enter into an insolvency scenario. While there may be peripheral issues concerning priority between secured creditors that need to be dealt with on a case-by-case basis, the Courts have recognised that it isn’t the intention of the legislation to disadvantage a secured creditor by first requiring them to seek leave to proceed in order to enforce a remedy against the property of a bankrupt.

For more information, contact ERA Legal.