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    01:12 AM Mitchell Yeo Jianhao (Associate, Rajah & Tann Singapore LLP)

    Bankruptcy Proceedings: third party securities don’t have to be stated in the statutory demand

        

    The Court of Appeal has stated in no unclear terms that, in the context of bankruptcy practice, a security held by a petitioning creditor in respect of the debt but which was provided by a third party (and not the debtor in the bankruptcy proceedings) (a “third party security”), does not have to be specified in a statutory demand. Further, any application to set aside a statutory demand must be taken out expeditiously. The fact that parties are also in the midst of settlement negotiations will not justify a late setting-aside application.

    In Chan Siew Lee Jannie v Australia and New Zealand Banking Group Ltd [2016] SGCA 23, the Respondent bank had made a loan to Timor Global LDA (“TGL”) (the principal debtor), in respect of which TGL provided security by pledging its assets to the Respondent. The Appellant, as a shareholder and director of TGL, had executed a personal guarantee in favour of the Respondent. TGL defaulted on the loan. The Respondent eventually served a statutory demand on the Appellant, who in turn applied to set aside the statutory demand.

    In the Court below, Senior Judge Kan Ting Chiu had dismissed the application to set aside the statutory demand, holding that the third party security did not have to be specified in the statutory demand.

    Before the Court of Appeal, the Appellant’s main arguments were:

    1) the bankruptcy regime was debtor-centric in that its purpose was to give debtors an opportunity to make a fresh start rather than to balance and protect the debtors, bankrupts creditors and society. The Court should, as far as possible, prefer a construction which benefits the debtor;

    2) the "security" to be specified in the statutory demand under rules 94(5) and 98(2) of the Bankruptcy Rules should be distinguished from the security that secured creditors had to specify in the bankruptcy application; and

    3) it is inherently unfair for there to be no requirement to specify third party securities in statutory demands. Guarantors would be placed in a disadvantaged position vis-à-vis the principal debtors. Where a principal debtor provides a security for the debtor, the creditor might still be able to present a bankruptcy application against the guarantor even though such may not be possible as against the principal debtor.

    The Court of Appeal rejected all these arguments.

    Object and Purpose of the Statutory Bankruptcy Regime

    The Court of Appeal first addressed the Appellant’s argument that the purpose of the statutory bankruptcy regime was to allow bankrupts to make a fresh start. The clear answer was that such could take place within a system that balances the competing interests of other stakeholders in the bankruptcy process (i.e. creditors and society). This writer would further note that the High Court had in large part based its decision on this point.

    Third Party Security in Bankruptcy Law

    A creditor cannot initiate bankruptcy proceedings or prove against the bankrupt’s estate and yet retain a security which, if given up, would augment the estate against which he proves. This is enshrined in sections 63(1) and (2) of the Bankruptcy Act (the “Act”):

    Where applicant for bankruptcy order is secured creditor

    63.—(1) Where the applicant for a bankruptcy order is a secured creditor of the debtor, he shall in his application —

    (a) state that he is willing, in the event of a bankruptcy order being made, to give up his security for the benefit of the other creditors of the bankrupt; or

    (b) give an estimate of the value of his security, in which case he may to the extent of the balance of the debt due to him, after deducting the value so estimated, be admitted as a creditor in the same manner as if he were an unsecured creditor.

    (2) Where an applicant for a bankruptcy order who is a secured creditor of the debtor fails to disclose his security in the application, he shall be deemed to have given up his security for the benefit of the other creditors of the debtor and upon the making of a bankruptcy order —

    (a) he shall not be entitled to enforce his security against the estate of the bankrupt or to retain any proceeds from the realisation of such security; and

    (b) he shall execute such document of release as is required by the Official Assignee or account and pay over to the Official Assignee all proceeds from any realisation of his security.

    The Court of Appeal held that the existence of a third party security does not affect the creditor’s right to be admitted to the bankruptcy process and to prove the full amount of his debt. This is because bankruptcy proceedings are not intended as a means for a single creditor to enforce his debt. It is instead a method for the collective realisation of the assets of the debtor in order to maximise recovery for the general body of creditors, and for the distribution of the estate of the bankrupt in a simple, inexpensive and expeditious manner for the benefit of all creditors.

    As such, third party security is irrelevant in bankruptcy proceedings. Even if the third party security were to be given up, it would not form part of the eventual estate of the debtor divisible among his creditors.

    While acknowledging the above, the Appellant argued that such did not apply in the context of statutory demands as set out by rules 94(5) and 98(2) of the Bankruptcy Rules (the “Rules”). Rule 94(5) states:

    If the creditor holds any property of the debtor or any security for the debt, there shall be specified in the demand —

    (a) the full amount of the debt; and

    (b) the nature and value of the security or the assets.

    The relevant portion for rule 98(2) states:

    The court shall set aside the statutory demand if —

    (c) it appears that the creditor holds assets of the debtor or security in respect of the debt claimed by the demand, and either rule 94(5) has not been complied with, or the court is satisfied that the value of the assets or security is equivalent to or exceeds the full amount of the debt;

    The Appellant argued that section 63 of the Act relates to the rights and obligations of a “secured creditor”. However, rules 94(5) and 98(2) refers to “security”. The Appellant hence submitted that the meaning of “security” under those rules is wider than that of the security held by secured creditors under the Act. On this argument, “security” under rules 94(5) and 98(2) refers to security generally, including third party security. Such third party security would in turn have to be specified in the statutory demand made against the debtor.

    The Court of Appeal rejected this argument. The expression “security” in rules 94(5) and 98(2)(c) could only refer to security provided by the debtor against whom bankruptcy proceedings are being taken. This is the only construction of the rules which is consistent with the purpose, intent and text of the parent provisions of the Act, as well as with the authorities and the principles of bankruptcy law. In so holding, the Court of Appeal substantially agreed with the reasoning of Woo Bi Lih JC (as he then was) in Re Loh Lee Keow and another, ex parte Keppel TatLee Bank Ltd [2000] 3 SLR(R) 283 in reaching the conclusion that the word “security” in rules 94(5) and 98(2)(c) could only refer to the security provided by the debtor in question.

    Not unfair to exclude third party security

    As regards the Appellant’s contention on unfairness, the Court of Appeal pointed out that it is not unfair to allow a creditor to commence bankruptcy proceedings when he holds third party security sufficient to discharge the debt. It has long been the position at common law that a creditor has an unfettered election as to his remedies. A creditor with several remedies at his disposal can choose whether to enforce, and, if so, which one to enforce, at what time, in which order, and in whatever way, subject only to the rule that he cannot recover more than is due to him. For example, the surety has no right to require the creditor to first proceed against any security provided for the debt. Consequently, the creditor is under no obligation to first realise the security it holds in respect of the debt before issuing a bankruptcy application against a surety. The fact that the principal debtor might have a basis for setting aside a statutory demand under rule 98(2)(c) does not, without more, mean that a guarantor should likewise have such a basis.

    On the facts of the case at hand, the Court of Appeal remarked that it was actually unfair to deny the Respondent of the opportunity to proceed against the Appellant (as guarantor) when the Respondent had extended banking facilities to the principal debtor on the basis of the availability of multiple routes of recovery.

    In the course of argument of this point on unfairness, the Appellant also sought to rely on the principle of co-extensiveness in making the submission that a guarantor should have any defences which are available to the principal borrower (which would include the third party security). The Court of Appeal rejected this submission since the principle of co-extensiveness only provides that the guarantor’s liability mirrors that of the principal debtor (i.e. the quantum of liability). This, however, says nothing about the vulnerability of the guarantor to compulsory process of law available to the creditor for debt recovery. It also does not mean that a creditor should only be allowed to proceed against a guarantor in bankruptcy if he would also have been able to proceed against the primary debtor in bankruptcy.

    Extensions of time

    As regards the Appellant’s out-of-time setting-aside application, the Appellant argued that she had acted expeditiously notwithstanding the 70 days’ delay. This was on the basis that parties were in the midst of negotiations at the material time, and the object of the negotiations was allegedly to forestall the initiation of bankruptcy proceedings.

    The Court of Appeal rejected this argument, being largely in agreement with the reasoning of the Court below on this matter, i.e. that (i) the 70 days’ delay was substantial; (ii) the reason for delay was unsatisfactory because there was no agreement that there would be no need to apply to set aside the statutory demand while negotiations were ongoing; and (iii) the grounds for setting aside the statutory demand were unsound.

    As regards the significance of the negotiations between parties, the Court of Appeal, pointed to the Supreme Court of Zambia decision of Twampane v Msorti [2011] ZMSC 18. Entry into settlement negotiations does not and cannot stop time from running. Parties in the midst of negotiations must prepare for any eventuality and must take such steps as are necessary to preserve their legal positions in the event that the settlement negotiations fail and they wish to pursue other legal options.

    Conclusion

    There does not appear to be any more leeway for a debtor to challenge a statutory demand on the basis that it did not specify that the creditor holds third party security. To this, this writer would add that even as regards security provided by the debtor, creditors should note that they may not need to specify the security if the creditor it is not entitled to apply the security towards payment of the debt claimed in the statutory demand (see Ramesh Mohandas Nagrani v United Overseas Bank Ltd [2016] 1 SLR 174 at [20] and [27]).

    * This blog entry may be cited as Mitchell Yeo Jianhao, “Bankruptcy Proceedings: third party securities don’t have to be stated in the statutory demand” (16 May 2016)  (http://www.singaporelawblog.sg/blog/article/160)

    ** A PDF version of this entry may be downloaded here

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