Control over assets Before Bankruptcy

Can creditors protect their interests before the bankruptcy of a debtor?

Yes. The Bankruptcy Act provides two ways for creditors to protect their interests and stop the debtor's assets from being disbursed or hidden. Both may be done prior to a Sequestration Order being made.

Neither is widely used in practice, due to the difficulty in convincing the Court that the assets are in such danger that the Court needs to take action to protect them by suspending the rights of the debtor to deal with their own property.

What are the alternatives?

The two relevant section of the Act are:

1. Section 78 (Arrest of debtor or bankrupt); and
2. Section 50 (Taking control of debtor's property before sequestration).

What is the difference between these alternatives?

The difference is the target of the Orders.

A section 78 Order is used to stop the debtor from fleeing before being made bankrupt. It targets the person and can be made before or after the commencement of the bankruptcy. It is primarily used to restrict the movement of the debtor or bankrupt, though there is provision for the Order to also deal with property and financial records.

A section 50 Order targets assets and is used to restrict the debtor's access to assets, to ensure they will be available to the trustee of the estate, by placing an interim receiver in control of the debtor's property. It does not restrict the movements of the debtor physically, and can also only be made before the bankruptcy of the debtor. Once the debtor is bankrupted, the property vests in the trustee in bankruptcy and the need for an interim appointment ends.

What is required to get an Order under section 78?

The Federal Court will only issue a warrant for the arrest of a debtor and Orders for the seizure of the debtor's assets and records in very limited circumstances.

Firstly, a Bankruptcy Notice must have been issued against and served on the debtor, usually meaning that a Judgment Debt has been obtained against the debtor. The debtor must have clear knowledge that a bankruptcy is immanent.

Secondly, the Court must be convinced that the debtor has absconded, or has the intention of absconding with a view of avoiding payment of their debts, or preventing or delaying proceedings against them. The Courts will usually be reluctant to grant these Orders without sufficient evidence of these matters.

The Court may grant an Order if the debtor tries to conceal or remove assets with the same intention. Similar reasons may be used to obtain an Order that relates to the protection of records etc.

What orders can the Court give under section 78?

The Court may issue a warrant for the arrest of the debtor and may commit them to goal until the Court believes that the danger of fleeing or to the assets or records has passed or the bankruptcy hearing has been heard and the trustee has taken control of the affairs (and passport) of the bankrupt. In appropriate circumstances the Court will just order that the debtor's passport be held by the Court until the hearing.

The Court may Order that any property or records of the debtor be seized and placed into the custody of a person until the bankruptcy hearing and the Court gives further Orders.

What is a section 50 receiver?

The Court may appoint a trustee to act as an interim receiver of a debtor's assets prior to the debtor becoming bankrupt. The receiver's role is to protect and maintain the debtor's property until a further order is made by the Court. The application for a receiver may be made by any creditor.

When can a Court make this appointment?

Before the Court will appoint a section 50 receiver:

(a) a Bankruptcy Notice must have been served on the debtor, or a creditor's petition must be outstanding;
(b) the Bankruptcy Notice must have expired, so that there is an act of bankruptcy for noncompliance under that notice;
(c) a creditor must have made an application to the Court for such a Sequestration Order.
(d) the Court must be satisfied that it is in the interests of the creditors to appoint a receiver.

The Court must be satisfied that the debtor's assets or records are in danger of being lost and will be unavailable to the creditors by the time of the bankruptcy.

Can a section 50 receiver pay dividends?

No. The receiver is simply a caretaker during the period before the trustee is appointed.

When does a section 50 receivership end?

The Court must specify in the Order when control of the property is to end. It is usual that this will happen when application for the Sequestration Order has been heard and either a trustee in bankruptcy has been appointed or the application has been dismissed.

What protection does the debtor have?

If the debtor does not become a bankrupt and his assets have been subject to the control of a section 50 receiver, they may have some recourse under Regulation 4.08 of the Bankruptcy Act for any damage that they suffered because of the appointment.

Within 21 days after the control period ends, the debtor may apply to the Court for an assessment of damages suffered resulting from the appointment and an Order for payment of those damages by the Creditor that requested the appointment. The application is not against the Trustee. Creditors will have to keep this potential liability in mind when deciding whether to apply for such an appointment.

Disclaimer
The enclosed information is of necessity a brief overview and it is not intended that readers should rely wholly on the information contained herein. No warranty express or implied is given in respect of the information provided and accordingly no responsibility is taken by Worrells or any member of the firm for any loss resulting from any error or omission contained within this fact sheet.

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Last Updated: 22.1.2008