Pyramid Building Society (in liq) v Chen [1999] FCA 58 (4 February 1999)

Last Updated: 5 February 1999

FEDERAL COURT OF AUSTRALIA

Pyramid Building Society (in liq) v Chen [1999] FCA 58

BANKRUPTCY - application for sequestration orders - whether act of bankruptcy committed where the judgment which created the alleged debt made in error - whether there are grounds to go behind the judgment to assess whether there was in truth and reality a debt - whether there was an error of law

Bankruptcy Act 1966 (Cth), ss 43, 52

Wren v Mahony [1972] HCA 5; (1972) 126 CLR 212, cited

Gilmour v Pyramid Building Society (in liquidation) (1995) 6 BPR 13,979, discussed

Corumo Holdings Pty Ltd v C. Itoh Ltd (1991) 24 NSWLR 370, cited

Ankar Pty Ltd v National Westminster Finance (Australia) Ltd [1987] HCA 15; (1987) 162 CLR 549, cited

Re Flatau 22 QBD 83, cited

Ahern v Deputy Commissioner of Taxation (Qld) [1987] FCA 312; (1987) 76 ALR 137, cited

Wilkinson v Osborne [1915] HCA 92; (1915) 21 CLR 89, cited

PYRAMID BUILDING SOCIETY (IN LIQUIDATION) V

JI-SHEN-CHEN (AKA KENNETH CHEN)

NG 7346 of 1998

O'CONNOR J

SYDNEY

4 FEBRUARY 1999

IN THE FEDERAL COURT OF AUSTRALIA
NEW SOUTH WALES DISTRICT REGISTRY	NG 7346 OF 1998

BETWEEN:	PYRAMID BUILDING SOCIETY (IN LIQUIDATION) Applicant
AND:	JI-SHEN-CHEN (AKA KENNETH CHEN) Respondent
JUDGE:	O'CONNOR J
DATE OF ORDER:	4 FEBRUARY 1999
WHERE MADE:	SYDNEY

THE COURT ORDERS THAT:

1. The estate of Ji-Shen-Chen (aka Kenneth Chen) be sequestrated pursuant to the provisions of s 43 of the Bankruptcy Act 1966 (Cth).

Note: Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.

IN THE FEDERAL COURT OF AUSTRALIA
NEW SOUTH WALES DISTRICT REGISTRY	NG 7346 OF 1998

BETWEEN:	PYRAMID BUILDING SOCIETY (IN LIQUIDATION) Applicant
AND:	JI-SHEN-CHEN (AKA KENNETH CHEN) Respondent

JUDGE:	O'CONNOR J
DATE:	4 FEBRUARY 1999
PLACE:	SYDNEY

REASONS FOR JUDGMENT

1 This is an application for a sequestration order pursuant to s 43 of the Bankruptcy Act 1966 (Cth) ("the Act") against the estate of the respondent debtor. The applicant creditor says he is entitled to the order because:

1. The respondent debtor owes the applicant creditor the amount of $2,968,669.98 being the sum due to the applicant creditor after final judgment was given in the Supreme Court of New South Wales on 6 December 1993 (in proceedings number 50628/91) in which the applicant was a plaintiff and the respondent debtor was a defendant.

2. The applicant creditor holds no security over the property of the respondent debtor.

3. At the time when the act of bankruptcy was committed, the respondent debtor was personally present in Australia.

4. The respondent debtor committed an act of bankruptcy in that within 6 months the respondent failed on or before 24 February 1998 to comply with the requirements of the Bankruptcy Notice NN 2622 of 1997 served on the respondent debtor on 3 February 1998 or to satisfy the Court that he had a counter-claim, set-off cross demand equal to, or, exceeding the sum specified in the Bankruptcy Notice.

2 On 6 December 1993 final judgment was obtained by the applicant creditor against the respondent debtor and a number of other persons in proceedings No. 50628 of 1991 in the Supreme Court of New South Wales. The execution of that judgment was not stayed.

3 On 10 December 1997, a Bankruptcy Notice was issued to the respondent debtor claiming the sum of $2,968,669.98 was due to the applicant creditor under the judgment ("the Bankruptcy Notice"). On 3 February 1998 a copy of the Bankruptcy Notice was served on the respondent debtor.

4 On 24 February 1998, (the date by which the respondent debtor was required to comply with the Bankruptcy Notice) no payments from, contact by or arrangements with the respondent debtor had been made to satisfy the judgment debt. Consequently, the applicant creditor claims the amount claimed in the petition is still wholly due and unsatisfied.

5 On 30 March 1998 the solicitors for the applicant creditor conducted a search of the records of the Federal Court and found that, at that date, no application had been made to the Court for an order setting aside the Bankruptcy Notice; no application had been made for an extension of time for complying with the Bankruptcy Notice and no payment had been made in satisfaction of the judgment debt. On that day the applicant creditor lodged the creditor's petition against the respondent debtor which is the subject of these proceedings.

6 The respondent debtor claims that he has not committed the act of bankruptcy alleged because no debt is owing as the judgment which created the alleged debt was made in error. The Court should therefore decline to make the order sought.

7 Section 52(1) of the Act provides that:

"At the hearing of a creditor's petition, the Court shall require proof of:

(a) the matters stated in the petition (for which purpose the Court may accept the affidavit verifying the petition as sufficient);

(b) service of the petition; and

(c) the fact that the debt or debts on which the petitioning creditor relies is or are still owing;

and, if it is satisfied with the proof of those matters, may make a sequestration order against the estate of the debtor".

8 The only matter where proof is contested in this proceeding is the existence of the debt. Proof of the existence of a judgment debt is not conclusive as to the issue of whether there was a debt due to the petitioning creditor. However the petitioning creditor, relying on the judgment debt, argues that there are no substantial reasons to go behind this judgment to assess whether there was in truth and reality a debt due to Pyramid.

9 In Wren v Mahony [1972] HCA 5; (1972) 126 CLR 212 at 224 Barwick CJ expressed his view as to the task of the Court in such a matter in this way:

" ... the Bankruptcy Court may accept the judgment as satisfactory proof of the petitioning creditor's debt. In that sense that court has a discretion. It may or may not so accept the judgment. But it has been made quite clear by the decisions of the past that where reason is shown for questioning whether behind the judgment or as it is said, as the consideration for it, there was in truth and reality a debt due to the petitioning creditor, the Court of Bankruptcy can no longer accept the judgment as such satisfactory proof. It must then exercise its power, or if you will, its discretion to look at what is behind the judgment: to what is its consideration. It is not the law, in my opinion, that whether in any case the Court of Bankruptcy will consider whether there is satisfactory proof of the petitioning creditor's debt is a mere matter of its own discretion. Nothing in Corney v Brien (2) lends support for such a view. Rather the emphasis is upon the paramount need to have satisfactory proof of the petitioning creditor's debt. The Court's discretion in my opinion is a discretion to accept the judgment as satisfactory proof of that debt. That discretion is not well exercised where substantial reasons are given for questioning whether behind that judgment there was in truth and reality a debt due to the petitioner."

10 The respondent debtor submits that there are substantial reasons which warrant looking behind this judgment. He argues that an error of law has vitiated the trial of the issues in the Supreme Court and this error has been exposed in the reasons for judgment of Mr Justice Meagher in his reasons for judgment after the unsuccessful appeals by Mr and Mrs Gilmour (not the respondent debtor's appeal) (Gilmour v Pyramid Building Society (in liquidation) (1995) 6 BPR 13, 979 at 13,980 - 13982) against the Supreme Court decision made by Rolfe J. Because what his Honour said in that judgment is central to this case I think it is necessary to set the relevant passages in full:

"Since a great deal of time was devoted to the analysis of the transactions in question, I shall set out how I see the matter. The debt secured by the Riverwood mortgages was perfectly regular. There is no reason to impugn its assignment to Pyramid Building Society by the Memorandum of Transfer on 21 February 1990. No notice of that assignment was given either to the mortgagor or to the guarantors. However, under the Real Property Act, perhaps anomalously, no notice is necessary. On 29 October 1990 that assignment was registered, and, for relevant purposes, that registration constituted notice to all the world. In my view, that assignment was an assignment not only of the mortgaged property and of the personal covenant but also of the guarantee contained in that document, which was an integral part of the mortgage: see Consolidated Trust Co Ltd v Naylor [1936] HCA 33; (1936) 55 CLR 423. Before registration of the Memorandum of Transfer, the mortgage was held at law by Farrow Mortgage Services Pty Ltd on trust for Pyramid building Society in equity; after registration, by Pyramid Building Society. But, at all stages, Pyramid Building Society held whatever interest it possessed in the mortgage on trust for the Order of the Sons of Temperance National Division Friendly Society, so that after 29 October 1990 the legal estate in the mortgage was vested in Pyramid building Society which held it in equity in trust for the Order of the Sons of Temperance National Division Friendly Society.

A similar analysis applied to the Collaroy mortgage, so that after 29 October 1990 it was owned at law by Pyramid Building Society, but in equity by the Order of the Sons of Temperance National Division Friendly Society.

It must be remembered that the loan of the extra $460,000 and the consequential variations of mortgage all took place on 19 March 1990, after the execution of the Memoranda of Transfer but before their registration. No separate document was entered into assigning that debt from Farrow Mortgage Services Pty Ltd to Pyramid Building Society, nor did the latter furnish consideration to the former in relation thereto. Rolfe J considered that the effect of the Real Property Act was to operate so as to make the Memorandum of Transfer effective to assign the mortgage in its varied form but, insofar as the debt of $460,000 was concerned, to hold that debt on behalf of Farrow Mortgage Services Pty Ltd. I agree with him.

The benefit of the guarantee of 19 March 1990 was never assigned by Farrow Mortgage Services Pty Ltd to anyone. This is quite remarkable, and can probably be ascribed to an oversight. But I can see no intellectually respectable way of holding either that there was an implied assignment of it or that after 29 October 1990 the benefit of the guarantee was held on trust for Pyramid Building Society. In this regard one is faced with the not unfamiliar spectre of the benefit of the mortgage and the benefit of an accompanying guarantee commencing by being vested in the same person and ending by being vested in different persons. This is a fatal defect: International Leasing Corporation Ltd v Aikeri [1967] 2 NSWLR 427 at 439; Hutchens v Deauville Investments Pty Ltd [1986] HCA 85; [1986] 61 ALJR 65 and Sacher Investments Pty Ltd v Forma Stereo Consultants Pty Ltd [1976] 1 NSWLR 5. It follows that insofar as the plaintiffs, or either of them, have to rely on the guarantee of 19 March 1990 in order to secure judgments against any of the defendants, it is difficult to see why they, or it, should not fail. Ironically, this applies to all the defendants except the present appellants. In respect of the other defendants it is at least arguable that the plaintiffs must rely on the guarantee of 19 March 1990."

11 The respondent debtor relies on these judicial comments to argue that the guarantee given by Mr Chen (the enforcement of which created the relevant judgment debt, here relied upon by the petitioning creditor), had been dissolved by the accidental transfer of a debt of $460,000 to the petitioning creditor.

12 The principle relied on to come to this conclusion is found in Corumo Holdings Pty Ltd v C. Itoh Ltd (1991) 24 NSWLR 370 at 404 where again, Meagher AJ referring to the authority of Ankar Pty Ltd v National Westminster Finance (Australia) Ltd [1987] HCA 15; (1987) 162 CLR 549, relevantly said:

"Under the principles laid down by the High Court in Ankar's case, the liability of a surety will be discharged by any variation in the principal agreement unless those seeking to enforce the guarantee can discharge the onus of proving either that the nature of the variations are beneficial to the surety or of their nature cannot in any circumstances increase its risk: see also Lombard Finance Ltd v Brookplain Trading Ltd [1991] 1 WLR 271; [1991] 2 All ER 762."

13 The respondent debtor argues that this case falls within that principle because the effect of the accidental transfer was to create an additional liability to the respondent debtor, exposing Mr Chen to the risk of default action by a "stranger" when he was not to know to whom he was to make payment or from whom he could obtain a valid receipt. Further, the creation of an additional, albeit unintended, liability of $460,000 in favour of Pyramid detrimentally affected the position of Mr Chen because, in the same way, it made it more likely that Mr Chen would be called upon under the guarantee of September 1989 in the event that Fortuna was able to meet its obligations in relation to the $4,000,000 advance but unable to meet its obligations in respect of an additional $460,000 and the extra liability of $460,000 secured by the Riverwood mortgages depreciated the value of Mr Chen's rights of indemnity against Fortuna, including the exercise of those rights against any equity in the Riverwood properties in the event that he was called upon to pay.

14 In addition, Clause 8 of the September 1989 guarantee provides that "neither the principal sum nor the rate of interest shall be increased (otherwise than in accordance with the terms of the Mortgage) nor the term shortened, without the Guarantor's prior consent". The respondent debtor argues that this variation to the principal sum without consent, even though accidental, was in breach of that provision and operated to discharge the guarantee.

ARE THERE GROUNDS TO GO BEHIND THE JUDGMENT?

15 The principles discussed by Barwick CJ in Wren v Mahony (supra) are long standing.

16 In Re Flatau 22 QBD 83 Lord Esher said, at 85:

"When an issue has been determined in any other Court, if evidence is brought before the Court of Bankruptcy of circumstances tending to show that there has been fraud, or collusion or miscarriage of justice, the Court of Bankruptcy has power to go behind the judgment and enquire into the validity of the debt."

17 However, Fry LJ, in that case, commented in the course of his judgment that he was unaware of any case where this power was exercised where judgment had been obtained after the issues had been tried in a court. The usual circumstances of its exercise were when judgment was entered by default.

18 However in Ahern v Deputy Commissioner of Taxation (Qld) [1987] FCA 312; (1987) 76 ALR 137 at 146-8 the Full Court of the Federal Court relying on the remarks of Barwick CJ in Wren v Mahony (supra) concluded that if substantial reasons exist for questioning whether there is a debt due, then the fact that there has been a hearing on the merits where both parties appeared will not preclude going behind the judgment if it is necessary to establish the issue to be determined by the Court.

19 In this case there was a contested hearing, on the merits, over sixteen hearing days with judgment entered five years ago in favour of the applicant creditor. No appeal was instituted by the respondent debtor with respect to the judgment which covered a large number of issues including the validity of the guarantee.

20 The applicant creditor submits that there are in this case no substantial reasons to go behind the judgment in order to establish whether there was, in truth and reality, a debt due to Pyramid.

21 The duty imposed by s 52 of the Act does not, however, in my view require the Court, because arguments based on an alleged error of law are raised in proceedings by a party, to go behind the judgment and reconsider in full the issues raised and decided in the trial which resulted in a judgment debt even though it has undoubted power to do so. If this were the case then ever creditor would be in danger of being placed in this position. Bankruptcy proceedings would be in truth an alternative appeal Court (described by counsel in this case aptly as a Clayton's Appeal Court).

22 The well established principles enunciated in Re Flatau are that going behind a judgment is warranted only on substantial grounds specified in the cases as fraud, collusion and miscarriage or justice. Of course it may be that the establishment of an arguable case that there is an error of law would amount to a miscarriage of justice even when there has been a lengthy contested trial. This was done in Wilkinson v Osborne [1915] HCA 92; (1915) 21 CLR 89 where the High Court set aside a bankruptcy notice notwithstanding that it was based upon the verdict of a jury, and where an application for a new trial had been refused on appeal, because they concluded that the contract on which the verdict was based was contrary to public policy.

23 That is not the case here. The applicant creditor argues that there has been no miscarriage of justice on three grounds, firstly the "arguable case" that the first guarantee was not available to the applicant at the trial does not in fact establish any legal error. Secondly, Meagher JA did not decide nor express a concluded opinion on this relevant issue in his reasons for judgment in Gilmour and thirdly, the debtor in this case has no merit in his attack on the judgment.

24 The respondent debtor had judgment entered against him five years ago. He did not appeal when he was entitled to do so. Further an application to appeal out of time, heard and determined after the Gilmour judgment was not made by him but by one of the other parties and this application was itself refused on discretionary grounds. Priestly JA, apparently, not accepting that the argument being presented in this case that there was a clear error of law, was so compelling as to tip the balance in favour of extension of time to appeal. In the Gilmour appeal judgment itself, two of the judges, including Priestly JA, expressed no view on the issue being agitated here. Meagher JA on the most favourable reading of his reasons regarded it as arguable. The question as to whether it was argued at the trial was not raised before me. As the applicant creditor has pointed out, there is no evidence before me as to Mr Chen's position at the trial or evidence given by him on this issue.

25 The respondent debtor referred me to those parts of the evidence and the judgment of Rolfe J which dealt with the mortgage transactions and to Rolfe J's conclusions on the September 1989 guarantee. Rolfe J found that this guarantee was not dissolved by the consequential March 1990 guarantee. However the respondent debtor submits that the basis for dissolving it being pressed in these proceedings was not referred to by Rolfe J in his reasons for judgment. The applicant creditor submits that considering the extensive (16 day) trial and 253 page judgment I should be satisfied that there was ample opportunity to press this "arguable" point just as there was a right to appeal if it were unsuccessful or ignored. The conclusions of the trial judge, which left the 1989 guarantee in place for the benefit of the applicant creditor either did not argue the issue at the trial or the judge did not consider it when coming to his decision. The applicant creditor submits that in these circumstances there is no miscarriage of justice and no substantial grounds have been established to go behind the judgment debt.

IS THERE AN ERROR OF LAW?

26 Both counsel in this case made lengthy submission as to whether or not there was a legal error which warranted the Court in not accepting the judgment as proof of debt.

27 Counsel for the respondent debtor submitted that once this error was established, to the satisfaction of the Court, then the Court could not be satisfied as to the requirements of s 52.

28 The issue is whether the guarantee of September 1989 was dissolved by the "accidental" transfer of the $460,000 debt which Fortuna owed Farrow to Pyramid. The applicant creditor argued that the whole of the debt ($4,460,000) was known to the debtor and that this assignment, whether deliberate or not, created no detriment to the guarantor because the terms and conditions of the loan were unaltered. On one view, it was argued, it created a benefit because the guarantee of March 1990 was not transferred to Pyramid with the debt so that the guarantee of 1989 would if called in be limited to $4,000,000.

29 The respondent debtor argued that even if the $460,000 was held in trust for Farrow on its transfer, it still created a legal debt to Pyramid for Fortuna, guaranteed by the debtor, and this was enough to vitiate the guarantee as stated previously. Both sides of this issue are arguable. If called upon to decide the question, I would favour the applicant creditor. However, because of the view I take of this case, a final determination of the legal issue is not required. I do not consider that there are substantial reasons to go behind the judgment debt.

30 In my view there is nothing in the circumstances of this case which raises any difficulty with the acceptance of the judgment debt to fulfil the requirements of s 52 and I do so and propose to make the orders sought.

I certify that the preceding thirty (30) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice O'Connor.

Associate:

Dated: 4 February 1999

Counsel for the Applicant:	B Coles QC with S T White
Solicitor for the Applicant:	Clayton Utz
Counsel for the Respondent:	J Kelly SC with M Galvin
Solicitor for the Respondent:	T H Walker, Hedges & Co
Date of Hearing:	9 December 1998
Date of Judgment:	4 February 1999