Set-off vs employee entitlements: Supreme Court provides clarity for liquidators
On 24 July, the Supreme Court of Queensland delivered judgment in the closely watched case of Re Condev Construction Pty Ltd (in liquidation) [2025] QSC 173. The case considered some important questions for the insolvency industry:
- Was the secured creditor (Westpac) entitled to exercise a right of set-off over the cash at bank held by the company (Condev) at the time of the liquidators’ appointment, or were those assets required to be allocated to employee entitlements under section 561 Corporations Act 2001 (Cth) (Corporations Act)?
- Were the liquidators justified in:
- not pursuing Westpac for certain pre-appointment debts owed to Condev before the liquidation; and
- not treating funds paid to Condev by Westpac after their appointment as circulating assets held at the appointment date?
The Court found in favour of the liquidators and Westpac on both issues. In doing so, the Court provided useful guidance to liquidators and the insolvency industry regarding the interpretation of set-off provisions generally, and the assessment of employee entitlements’ priority under s 561.
Key takeaways
Liquidators and creditors should take note of the following:
- The Court has reaffirmed that the statutory right to set off under s 553C applies to secured debts.
- While s 561 gives certain employee entitlements priority over security interests in circulating assets, there must be a contest between those employee entitlements and the security interest before the priority can be triggered. This requires, amongst other things, the security interest to still be on foot at the time of the liquidators’ assessment.
- The time for assessment of whether the s 561 preconditions are met is when sufficient information is available to the liquidators to make the determination, not at the appointment date. The Court confirmed Tonks in this regard.
- As a result, by the time a liquidator is in a position to assess whether the s 561 preconditions are met, that section may no longer apply. For example, the secured creditors may have already been paid (including by way of set-off) or their security claims fail, such that they no longer have a claimable security interest. In such instances, there is no contest and s 561 does not apply. Section 553C does not change this analysis.
- The Court acknowledged that a high threshold applies when liquidators seek to establish that a creditor had notice of insolvency such that they are not entitled to s 553C set-off. The test is objective and requires actual knowledge of facts indicating insolvency. It is not enough to argue that a party should have suspected or inferred that the company was insolvent.
Background
Condev Construction Pty Ltd, a major Queensland construction company, was placed into liquidation on 16 March 2022 amid growing financial pressures following the COVID-19 pandemic and severe weather events.
At the time of liquidation, Condev:
- owed approximately $6.3 million to Westpac, secured by a validly registered fixed and floating charge over all its assets (now known as a General Security Agreement or GSA);
- held accounts with Westpac with a credit balance of approximately $6.58 million, including general accounts, project bank accounts and a term deposit of $5m.
While the term deposit was subject to Westpac’s security, the parties agreed that it was not a circulating asset.
On 18 March 2022, two days after the liquidators’ appointment, Westpac applied a right of set-off under s 553C of the Corporations Act, general law and the parties’ contractual terms. It relied on its security and transferred substantially all of the credit balances in the project bank accounts and general accounts, totalling $1.96m, into a separate freeze account (Frozen Funds).
After applying other non-circulating assets (including the term deposit) to components of its debt, Westpac remitted approximately $1.065m to the liquidators from the freeze account, plus an additional $27,795 from a different account (Remitted Funds). Westpac retained the balance of the Frozen Funds, being $907,200 (Retained Funds).
During the liquidation, the Commonwealth paid approximately $1.9m to former employees of Condev in accordance with the Fair Entitlements Guarantee (‘FEG’) scheme. It then claimed priority under s 561 of the Corporations Act in relation to the Frozen Funds.
The liquidators sought directions under s 90-15 of the Insolvency Practice Schedule (Corporations), confirming that they were justified in:
- not causing Condev to pursue Westpac to recover debts owed to Condev immediately before liquidation, as Westpac had exercised a right of set-off in respect of those debts; and
- not treating the Remitted Funds paid by Westpac to Condev as the subject of a circulating security interest held by Westpac.
At the same time, the Commonwealth sought declarations that:
- the liquidators were required to distribute the Frozen Funds as Condev assets subject to a circulating security interest, and therefore to employee entitlements in accordance with s 561;
- Westpac was not entitled to exercise or assert a right of set-off under s 553C or the general law regarding the debts it owed to Condev; and
- Westpac or the liquidators were required to repay the relevant amounts so they could be distributed as employee entitlements in accordance with the declarations.
At all relevant times, Westpac was the only secured creditor.
Decision
The Court found in favour of the liquidators and made the directions they sought. The Commonwealth's cross-application for declarations and repayment was unsuccessful.
The Court broke the issues down into a series of questions. The key questions and answers are summarised below.
Question 1: Does s 553C permit set-off in respect of secured debts?
Answer: Yes.
The Commonwealth argued that s 553C of the Corporations Act does not apply to secured debts.
The Court rejected this argument, confirming clearly that set-off rights under s 553C do apply to secured debts. After citing the 2023 High Court case of Metal Manufacturers Pty Ltd v Morton[1] and United Kingdom authority, the Court concluded that s 553C “applies to mutual credits, mutual debts, and mutual dealings notwithstanding that one or other of the debts or credits may be secured” (citation omitted). Its operation was not altered by the commencement of the Personal Property Securities Act.
Question 2: Is set-off under s 553C subject to the Commonwealth having a higher priority under s 561?
Answer: No.
The Commonwealth submitted that the set-off process under s 553C occurs subject to the rights created under s 561. If correct, this would effectively prevent secured creditors (eg. banks) from exercising set-off and ‘sweeping’ bank accounts in any instance of unpaid employee entitlements, at least until the parties’ relative entitlements could be determined.
The Court rejected this argument. Citing Commonwealth v Tonks[2], the Court held that the rights under s 561 are limited to “the amount of the secured creditor’s claim against the circulating assets. The priority unsecured creditor has no right to be paid in priority from any circulating assets that are not the subject of the secured creditor’s claim.”
Section 561 only applies where there is a contest between a secured creditor and a priority creditor over circulating assets. As Westpac’s debts were discharged through the exercise of set-off, there was no contest between it and the Commonwealth and s 561 was not enlivened.
Question 3: Do employee entitlements rank ahead of the liquidators’ right to be paid general remuneration?
Answer: The Commonwealth’s argument failed on the answers to questions one and two above. The liquidators were therefore entitled to their general remuneration without further consideration of this question.
Because the Court found that Westpac was entitled to set-off and that s 561 did not apply (and that there were no other relevant secured creditors), the Commonwealth’s case on this point also failed. The Court did not provide additional reasoning on this question.
Question 4: When is the correct time for an assessment by a liquidator of whether the preconditions are met under s 561?
Answer: Liquidators only need to assess whether there are sufficient assets to pay priority claims when there is enough information available. The assessment is not retrospective to the appointment date.
Section 561 contains two preconditions:
- whether the property of the company available for payment of creditors other than secured creditors is insufficient to meet payment of s 561 priority creditors; and
- whether there is a secured party with a circulating interest in those assets, created by the company,
(collectively, Preconditions).
The Commonwealth originally contended that liquidators were required to assess these Preconditions on and at the liquidators’ appointment date.
The Court noted that this argument had previously failed in Tonks[3], citing:
the Preconditions would “almost inevitably only be able to be assessed well after the liquidator’s appointment when the liquidator is in a position to ascertain the precise amount of the secured creditor’s debt, the net amount recovered from non-circulating and circulating assets, the recoveries from voidable transactions and the extent of the liquidator’s costs and remuneration … s 561 neither requires nor authorises the liquidator to turn a blind eye to the actual situation at the time of the assessment for the purposes of s 561. Indeed, such assessment can only be made when sufficient facts are known to make the assessment.”
Although the Commonwealth did not press the issue in later submissions, the Court stated clearly that to the extent that the Commonwealth did seek to press any aspect of the argument, the argument was rejected and Tonks affirmed.
Here, information to assess the Preconditions was only available after Westpac’s secured debts were discharged, the Frozen Funds transferred to the freeze account, the Remitted Funds returned to the liquidators, and other potential secured creditors addressed (including by failure of their security). At that point, no secured creditor remained unpaid, and no contest existed with priority unsecured creditors. As a result, s 561 did not apply.
Question 5: Did Westpac have notice of insolvency?
Answer: No.
The Commonwealth also argued that Westpac had notice of Condev’s insolvency and was therefore not entitled to exercise a right of set-off under s 553C(2).
The Court considered a variety of information that had been provided to Westpac by Condev, including annual review documents, financial reports and summaries, correspondence within Westpac and between the parties, and a Courier-Mail article reporting on Condev’s financial difficulties indicating it was seeking support from stakeholders.
The Court found that there were other factors suggesting Westpac did not have actual knowledge of insolvency. These included remarks in the article that Condev were attempting to engage stakeholders, and Westpac having audited Condev and found no evidence of insolvency.
Citing the well-established test under s 553C(2), the Court reiterated that actual knowledge is required – constructive knowledge is not enough. It cited the Victorian Court of Appeal in Jetaway Logistics[4].
“What is required is proof of facts known to the creditor which warranted the conclusion of insolvency. Since ‘grounds for suspecting’ insolvency will not suffice, it is not enough that insolvency is a possible inference from the known facts.”
The Court held that the information provided to Westpac could not have led to the conclusion that Condev was unable to meet its debts as they fell due. Westpac did not have actual knowledge of insolvency and s 553C(2) was not triggered.
This case provides liquidators with comfort as to the operation of s 553C set-off and s 561 – both as stand-alone provisions and when considered together. Secured creditors can continue to apply set-off rights, including with respect to secured debts, and liquidators can continue to assess whether s 561 applies once the necessary information becomes available.
This article was written with the assistance of Luca Micalessi, Law Graduate.
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