Bankruptcy trustee - standing in the shoes of a discharged bankrupt

Taylor (liquidator), in the matter of Heading Contractors Pty Ltd (in liq) v Heading [2021] FCA 770 (8 July 2021)

Justice Charlesworth found that though an insured had been discharged from bankruptcy, the bankruptcy Trustee could enforce the insurance contract for the benefit of the estate, regardless of whether the indemnity under the contract vested in the Trustee under s 117 of the Bankruptcy Act 1966 (Cth).

This case reminds insolvency practitioners to carefully scrutinise the terms of “Directors & Officers” indemnity policies as potential sources of funding for creditor claims.

A sole director (Director) of a company in liquidation (Company) was declared bankrupt. Three years later, he was automatically discharged from bankruptcy under s 149 of the Bankruptcy Act.

The Company’s liquidator alleged that the Director contravened s 588G of the Corporations Act 2001 (Cth) by failing to prevent the Company incurring debts whilst it was insolvent and sought to recover losses exceeding $4million, as a debt due to the Company, pursuant to s 588M of that Act.

The Director was insured under a policy indemnifying him against claims for “Wrongful Acts” (defined to encompass contraventions of s 588G), as per clause 1(a) of the policy. Clause 2(g) of the policy provided that, in the event of the Director’s bankruptcy, it applied to “to their estate…for Loss incurred due to any Wrongful Act of such Director...for which he would have received cover under this policy”.

The liquidator and the Company sought leave under s 58(3) of the Bankruptcy Act to claim against the Director and the bankruptcy Trustee in respect of the alleged debt under s 588M.

In an earlier decision, Justice Charlesworth granted leave on the condition that the claim for relief be limited to the extent of cover provided under the policy. The insurer, who opposed any payout, was later joined as a defendant.

The parties then consented to her Honour determining a separate question – that is, whether if liability against the Director under s 588M were established, the policy responded to it.

Her Honour confirmed that because of the Director’s discharge from bankruptcy, the Director was – by operation of s 153(1) of the Bankruptcy Act – personally released from any monetary claim pursuant to s 588M. Nevertheless, any liability of the director pursuant to s588M remained a provable debt by virtue of s 82(1) of the Bankruptcy Act – the discharge operated only to release the bankrupt, not the estate.

Her Honour found that the word “estate” in clause 2(g), read in context, included the Director’s estate, as vested in the bankruptcy Trustee. Further, properly construed, clause 2(g) applied in the event of the insured’s bankruptcy and so precluded the operation of the insuring clause 1(a) in which the Director was indemnified.

Therefore, the Director did not have a personal right of indemnity under insuring cl 1(a) that was capable of vesting in the Trustee under s 177 of the Bankruptcy Act. However, cl 2(g), did provide that the Director’s bankrupt estate would enjoy the same protection that the Director “would have received” had he not become a bankrupt, and later a discharged bankrupt (whose debts were released under s 153(1) of the Bankruptcy Act).