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Tenants beware the liquidator - High Court offers hope

Newsletter 02 July 2013

High Court grants leave to appeal for Willmott Forests Ltd (Receivers and Managers appointed)(in liquidation) v Willmott Growers Group Inc and Willmott Action Group Inc [2012] VSCA 202.

In August of 2012 the Victorian Court of Appeal held, in Wilmott Forests, that a liquidator acting on behalf of a landlord may rely on section 568(1) of the Corporations Act 2001 (Cth) (the Act) to disclaim a lease and extinguish a tenant’s rights under a lease over land.

This decision received plenty of attention given the potential consequences for tenants.

On Friday 11 May 2013 the High Court granted special leave to appeal the decision of the Court of Appeal. The appeal is expected to be heard in August.

The grant of special leave is the first step in overturning the decision of the Court of Appeal and provides hope to tenants that their lease interest will be protected from a liquidator’s power to disclaim.

The Facts

Wilmott Forest Limited (Wilmott) was the responsible entity for a number of forestry Managed Investments Schemes (MIS). The members of these MIS (the Growers) had either leases or other occupation arrangements with Wilmott, under which they had rights to grow and harvest trees on the land.

When Wilmott went into liquidation, its appointed liquidators entered into six interdependent contracts for the sale of part of Wilmott’s land, unencumbered by the Growers’ rights. In order for the sale to go through, the Growers’ rights had to be terminated or extinguished.

The liquidators sought to rely on the power of disclaimer under section 568(1) Corporations Act 2001 (Cth) ('Act'). Under this section, a liquidator may disclaim (amongst other things) ‘property that may give rise to a liability to pay money or some other onerous obligation’. The object of this provision is to enable a liquidator to relieve the company of liabilities that would prevent the prompt and efficient winding up of the company’s affairs.

In reliance on the section 568(1) power, the liquidators purported to ‘disclaim’ the project documents establishing two of the relevant MIS. These project documents included the Growers' leases.

In response, the Growers brought an action to prevent the liquidators from relying on their disclaimer rights.

At first instance

The Trial Judge found for the Growers finding that leases create a proprietary interest distinct from contractual rights, being a leasehold interest. A proprietary interest cannot be described as a ‘liability’ and therefore a liquidator may not extinguish that interest under the section 568(1) power.

On Appeal

The Court of Appeal disagreed with the findings of the Trial Judge on certain grounds, including that:

a contract which grants a lease over land is ‘property’ that may be disclaimed under section 568(1) of the Act;

the obligation to provide quiet enjoyment and possession is a current and prospective ‘liability’ imposed on a landlord (for the purposes of the disclaimer) that can only be relieved by terminating the relevant contract that creates it (i.e., the lease); and

a proprietary interest in the land is extinguished if the lease contract giving rise to and governing that interest, is terminated. The lease contract and the proprietary interest it creates cannot be divorced from each other and considered separately.

Further, the Court noted that the tenant’s remedy, where their interest is terminated in such a manner, is set out in section 568D(2) of the Act; namely, to be a creditor of the company and prove its loss as a debt in the winding up of the company in liquidation.

Because the Court of Appeal considered that contractual and proprietary rights stemming from a lease are intertwined and inseparable, both must be able to be disclaimed in order to fully release the landlord from its current and prospective liability which is the object of section 568(1). In contrast to the findings of the Trial Judge, liquidators of landlords and of tenants have equal powers of disclaimer.

The law at present

While the High Court has granted leave to appeal, the decision of the Court of Appeal is still good law until otherwise overturned.

The Court of Appeal’s decision means that tenants are at risk of having their lease extinguished if a liquidator is appointed to a landlord entity.

The decision highlights a risk that both tenants and landlords must consider when entering into a lease. Unfortunately, clever lease drafting cannot validly limit the liquidator’s powers under the Act. Limiting your exposure in these circumstances will therefore require:

  • careful and thorough due diligence in relation to the credit worthiness and experience of a landlord entity before entering into a lease with it. The creation of the Personal Property Securities Register earlier this year on the introduction of the Personal Property Securities Act 2009 (Cth) has enabled such investigations to be more accurate and detailed; and
  • investigating the availability and viability of insurance to cover losses in the event of termination of the lease as a result of liquidation of one of the landlord entitles.

As a tenant, if you receive a notice of disclaimer under s568, you should be prompt in responding as the Act requires an application to set aside a disclaimer to be made within 14 days. Given leave was granted by the High Court, you may also consider challenging the landlord’s power to disclaim a lease.

It should be noted however that this case is unusual for two reasons:

It is far more common for a liquidator to be appointed to a tenant company, not to the landlord company, as was the scenario in this case; and

In reality, in many if not most cases, a lease will add value to a property so that a liquidator is less likely to try to disclaim the lease as a liability and more likely to sell the property with an income stream attached.

What if the High Court overturns the decision?

If the High Court overturns the decision of the Court of Appeal, the power of a liquidator to terminate a lease using the disclaimer power is likely to be removed. Tenants’ rights under a lease in those circumstances are likely to be protected.

Liquidators, and also Trustees in Bankruptcy who have a similar power under the Bankruptcy Act 1966, should consider the developing state of the law and possible implications depending on the High Court’s decision before exercising their powers and duties.

Dan Flynn, Partner

Newsletter 02 July 2013
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