By Kirsten Farmer, Partner and Jack Little, Associate

In the recent decision of the New South Wales Court of Appeal, Resilient Investment Group Pty Ltd v Barnet and Hodgkinson as liquidators of Spitfire Corporation Limited (in liq) [2023] NSWCA 118, the Court considered an appeal brought by Resilient Investment Group Pty Ltd (Resilient), a secured creditor of Spitfire Corporation Ltd (in liq) (Spitfire Corporation).

The appeal concerned two principal issues:

1. The first issue was whether the proceeds from research and development tax refunds (R&D Tax Refunds) received by Spitfire Corporation were “circulating assets” within the meaning of the Personal Property Securities Act 2009 (Cth) (PPSA), (in which case, the claims of employee creditors would have priority under s561 of the Corporations Act) or “non circulating assets” (in which case, Resilient would have priority) (R&D Tax Refunds Issue).
2. The second issue was whether the majority of the employees of the Spitfire group were employed by Spitfire Corporation or a related entity, Aspirio Pty Ltd (in liq) (Aspirio) (True Employer Issue).

Background

Spitfire Corporation was the parent company of the Spitfire Group, which carried on the business of developing and acquiring wealth management and share analysis platforms with the aim of building a global financial platform to simplify transacting in global financial markets for its users (Business).

As part of the Business, Spitfire Corporation engaged in research and development activities that qualified it to receive a research and development tax offset from the Commissioner of Taxation (Commissioner) of at the end of each financial year.

Spitfire Corporation, when under the control of the Liquidators, received approximately $2 million by way of R&D Tax Refunds from the Commissioner over two financial years.

As part of the Business, the Spitfire Group also employed 42 employees at different times and, with the exception of a few, most employment agreements were with Aspirio.

First instance decision

The Liquidators of Spitfire Corporation and Aspirio sought directions under s 90-15 of the Insolvency Practice Schedule (Corporations)(IPS), being Schedule 2 to the Corporations Act 2001 (Cth) (Corporations Act) that:

1. (with respect to the R&D Tax Refunds Issue) they would be justified in treating the R&D Tax Refunds as subject to a circulating security interest and using the R&D Tax Refunds to pay any debts or amounts falling within subsections (a) and (b) of s 561 of the Corporations Act in priority to any claim of Resilient; and
2. (with respect to the True Employer Issue) they would be justified in treating Spitfire Corporation as the employer of all of the employees, save one, and that those employees were creditors of Spitfire Corporation rather than of Aspirio.

The Liquidators took an active role in the proceedings at first instance as they had the onus of persuading the Court that it was appropriate that the directions sought be made.

Resilient and the Commonwealth of Australia (Commonwealth) (as a subrogated employee creditor under s560 of the Corporations Act) appeared and were heard under r 2.13 of the Supreme Court (Corporations) Rules 1999 (NSW). They each claimed priority to the R&D Tax Refunds.

The primary judge resolved both the R&D Tax Refunds Issue and the True Employer Issue in a manner that was favourable to the employee creditors (and therefore adverse to the interests of Resilient). In respect of the R&D Tax Refunds Issue, the primary judge found that the R&D Tax Refunds were “circulating assets” of Spitfire Corporation under s 340(1)(a) of the PPSA, and therefore were a “circulating security interest” for the purpose of s 561 of the Corporations Act and available to pay priority creditors over the claims of Resilient as a secured creditor. In respect of the True Employer Issue, the Court found that Spitfire Corporation, rather than Aspirio, was the true employer of the relevant employees having regard to the “substance and totality of the relationship” between the parties.

Resilient sought leave to appeal the primary judge’s finding on the R&D Tax Refunds Issue and the True Employer Issue (and on costs).

Court of Appeal

The application for leave to appeal raised three proposed grounds of appeal on the substantive issues. The Liquidators took a neutral role with respect to the substantive issues in dispute, given the Commonwealth had been joined as a party to the application for leave to appeal and had made detailed submissions on the proposed grounds of appeal.

In respect of the R&D Tax Refunds Issue, it was necessary for the Court of Appeal to consider two questions:

1. whether the R&D Tax Refunds were an “account” for the purposes of s340(5)(a) of the PPSA and therefore “personal property”; and
2. if the R&D Tax Refunds were an “account”, whether the entitlement to the R&D Tax Refunds “arises from” Spitfire providing services “in the ordinary course of a business of providing services of that kind” within the meaning of s 340(5)(a) of the PPSA.

Resilient’s position was that the R&D Tax Refunds were not properly characterised as a “monetary obligation” at the time of the appointment of the Liquidators (as Administrators) because no chose in action existed at that time. Resilient argued that the operation of the tax legislation was such that the Commissioner’s obligation to make payment to Spitfire Corporation only arose after the Commissioner issued the relevant assessment, which had not occurred at the appointment date.

The Commonwealth argued that the right to receive the R&D Tax Refunds existed independently of the making of any assessment by the Commissioner, and was a correlative right to the obligation to pay income tax at the end of a financial year, and thus a chose in action existed at the end of the relevant financial year, notwithstanding that the amount of the entitlement had not yet been measured.

The Court of Appeal agreed with Resilient, holding that the entitlement to the R&D Tax Refunds was not an “account” for the purposes of s 340(5)(a) of the PPSA. The Court said it was not implicit in the tax legislation that the Commissioner has an obligation at the end of an income year to pay a tax offset refund to the taxpayer. A taxpayer is therefore not entitled to enforce payment of a tax offset refund at the end of the relevant income year. Accordingly, no chose in action existed at the end of the relevant financial year.

Although it was not necessary, having determined that the R&D Tax Refunds were not an “account”, the Court went on to consider whether the R&D Tax Refunds arose from Spitfire Corporation providing services “in the ordinary course of a business of providing services of that kind”.

The evidence before the Court was that the services provided by Spitfire Corporation to its customers were financial platform services. The primary judge had concluded that the research and development activities giving rise to the R&D Tax Refunds were undertaken by certain companies within the Spitfire Group for the ultimate benefit of external customers who used these financial platform services. As such, there was a sufficient connection between the “account” and the provision of services.

The Court of Appeal, however, agreed with Resilient’s submission that the approach taken by the primary judge incorrectly construed the connection between the services giving rise to the R&D Tax Refunds, and the services provided by Spitfire Corporation in the ordinary course of its business. The undertaking of research and development activities by companies within the Spitfire Group, even if it was for the ultimate benefit of the customers of Spitfire Corporation, were not the services that those companies were in the ordinary course of providing. The R&D Tax Refunds did not arise out of the provision of financial platform services, being the services that Spitfire Corporation was in the business of providing, and therefore did not satisfy the requirements of s 340(5)(a) of the PPSA.

In respect of the True Employer Issue, the Court agreed with the Commonwealth’s submission that there was no error by the primary judge in the finding that Aspirio was the agent of Spitfire Corporation, an undisclosed principal, in respect of the relevant employees, stating:

“There is no inconsistency between the application of orthodox contractual principles in determining the character of the parties’ relationship the subject of a written agreement and the application of the principles of agency to determine the parties to a contract.”

The Court of Appeal upheld the primary judge’s finding that Spitfire Corporation was the true employer of those employees, and that they were therefore creditors of Spitfire Corporation and not Aspirio.

Takeaways

The Court of Appeal’s decision demonstrates that careful analysis is required of the nature and context of assets which arise after the commencement of a liquidation in order to determine whether those assets are circulating assets available for the payment of debts owing to priority creditors.

Update

The matter is currently subject to an application for special leave to appeal to the High Court of Australia.