Bankruptcy is not always the end of proceedings

Contrary to popular belief, bankruptcy is not an impenetrable shield against legal proceedings. In appropriate circumstances, Courts will grant a creditor leave to commence or continue proceedings against a bankrupt.

It’s every unsecured creditor’s worst nightmare, learning that a debtor has become bankrupt and they cannot recover their debt through court proceedings. Ordinarily, such proceedings are stayed or are unable to be commenced.

However, by invoking the Court’s discretion under section 58(3)(b) of the Bankruptcy Act 1966 (Cth) (Bankruptcy Act) creditors are, in certain circumstances, permitted to commence or continue proceedings against an individual who is a bankrupt.

The Law concerning proceedings against a bankrupt

Section 58(3) of the Bankruptcy Act provides two main principles; that is, once a debtor becomes bankrupt:

(a) it is not competent for a creditor to enforce a debt against the bankrupt or their property; and
(b) except with leave of the Court, it is not competent for a creditor to begin or continue proceedings in respect of a provable debt against a bankrupt.

The first step is to determine whether the claim is a provable debt in the bankruptcy. The definition of a provable debt is broad and has few exceptions. All debts and liabilities which are quantifiable in monetary terms and enforceable against the bankrupt, to which the bankrupt was subject to at the date of their bankruptcy, including future and contingent debts, are provable debts.

There are some notable exceptions, including:

  • foreign revenue debts
  • unliquidated damages arising otherwise than by reason of contract, promise or breach of trust
  • penalties and fines, including civil penalty orders made under the Corporations Act 2001 (Cth)
  • student fees, such as HECs-HELP and FEE-HELP.

The Court’s jurisdiction over proceedings where leave is sought proceed against a bankrupt is supervisory in nature. Generally when considering matters of leave under section 58(3)(b) of the Act the court will turn its mind to how best to promote the orderly administration of the bankrupt’s estate with a view to protecting creditor rights while minimising costs. The Court’s discretion is unfettered and therefore not limited by these principles but they do give some guidance as to the matters that the Court will consider.

Three principles have emerged which generally guide the Court in the exercise of its discretion in an application for leave to proceed against a bankrupt:

  1. the Courts generally consider it appropriate to grant leave to commence or continue proceedings against a bankrupt where the proceedings involve other parties (i.e. other than just the bankrupt and the creditor);
  2. where the quantum of loss and/or damages needs to be established, not simply the liability, the Courts have determined that those matters are best dealt with through the Court process rather than a proof of debt process; and
  3. where the issues would be better and more comprehensively dealt with by way of proceedings than if the creditor were required to lodge a proof of debt in the debtor’s bankruptcy, the Courts have considered it appropriate to exercise their discretion in favour of leave.

 

How to commence proceedings against a bankrupt

Remember, bankruptcy is not a shield against legal proceedings; courts may grant a creditor leave to commence or continue proceedings against a bankrupt.

The source of the Court’s power to grant leave to commence or continue proceedings against a bankrupt is found under section 58 of the Bankruptcy Act. Section 27 of the Bankruptcy Act identifies that the Federal Court and the Federal Circuit Court have concurrent jurisdiction in bankruptcy and that jurisdiction is exclusive of the jurisdiction of all other courts, except the Family Court and the High Court in certain circumstances.

Therefore, if seeking leave to commence or continue proceedings against a bankrupt, the application must be made to either the Federal Court or the Federal Circuit Court, even if you have proceedings on foot in a state or territory court. Being a bankruptcy matter, the application is made under the Federal Court (Bankruptcy) Rules 2016 (Cth). The application must, of course, be supported by an affidavit.

The bankrupt does not have to be a party to the leave application. Even where the bankrupt is the respondent, there is no requirement that they be served with the application and they have no right to be heard at any hearing on the matter because their rights to any property (including any property in cause of action) vests with their Trustee in bankruptcy.

Real life case studies of section 58(3) proceedings against a bankrupt

  • Hall v Warner where the Federal Court granted leave to a company and its liquidator to continue insolvent trading proceedings against the company’s bankrupt former director. The continued proceedings in this case involved numerous parties and complex issues.
  • Ferris v Schafferius where the Federal Court granted leave to an individual to commence proceedings against a bankrupt for the recovery of a loan. In this instance, the bankrupt’s trustee consented to the application.
  • Vanderland v Tunbridge where the Federal Magistrates Court granted leave to an individual to continue proceedings against the bankrupt for damages due to negligent financial advice. In this instance, the bankrupt’s trustee consented to the application as a determination in the continued proceedings was required to enliven the bankrupt’s professional indemnity insurance.
  • Ashdown v Spargo where the Federal Court granted leave to a tutor to continue proceedings against the bankrupt for a claim in contract for undue influence and unconscionable conduct in relation to a mortgage.
  • Antares Global Pty Ltd v Mansfield (Trustee) where the Federal Court granted leave to a company to continue proceedings against a bankrupt, but only with respect to preserving a freezing order against the bankrupt that was due to lapse on the same day.
  • Westpac Banking Corporation v Ollis where the Federal Court granted leave to a bank to continue proceedings against the bankrupt for, amongst other things, equitable compensation, damages, charges over specific property and declarations of trust. In this instance, neither the bankrupt nor his trustee opposed the application.
  • Blanshard v Tolcher (Trustee) where the Federal Court granted leave to a Mrs. Blanshard to continue proceedings against her bankrupt husband for equitable exoneration.
  • Wong v Lui where the Federal Magistrates Court refused to grant leave. Mr. Wong, a bankrupt himself, sought leave to continue proceedings against Mr. Lui, also a bankrupt, for damages in relation to negligent legal advice. Mr. Wong had not managed to obtain the consent of his trustee to continue the recovery proceedings. In the circumstances, the Court determined that the trustee had abandoned the claim and Mr. Wong had no standing himself to bring the cause of action.

 

Commencing or continuing proceedings against a bankrupt is not impossible

In summary, leave to continue proceedings against a bankrupt may be sought under section 58(3)(b) of the Bankruptcy Act only in respect of provable debts. Applications of that kind are the exclusive jurisdiction of the Federal Court and the Federal Circuit Court. The Court’s jurisdiction is supervisory in nature and exercised with a view to promoting orderly administration of bankrupt estates, particularly with respect to costs, as well as protecting the rights of creditors.

The discretion granted to the Court is unfettered but is generally exercised where there is more than one party to the claim, where quantum of loss/damages needs to be determined and where the claim would be more comprehensively dealt with by the Court.

Key Contacts

Key Contacts

looking for assistance to recover a debt?

If you are looking for assistance to recover a debt from a bankrupt or want some advice on how to proceed against a debtor who has foreshadowed they may become a bankrupt to frustrate recovery attempts, contact CMN’s specialist team of insolvency lawyers.

Email us