The High Court of Australia has held unanimously* that a person who commences proceedings against an insolvent company or a bankrupt individual can join that defendant’s insurer to the proceedings and seek a declaration that the insurer is liable to indemnify the defendant.
Liquidators of Akron Roads Pty Ltd commenced proceedings in the Victorian Supreme Court against Akron’s former directors, including Trevor Crewe and Crewe Sharp Pty Ltd. Crewe Sharp was a consulting company of which Mr Crewe was a director, and itself subsequently went into liquidation. The Akron liquidators sought an order under s 588M(2) of the Corporations Act2001 (Cth) that the directors were liable for loss and damage suffered by Akron’s creditors by reason of the directors’ insolvent trading in breach of their duties under s 588G.
Crewe Sharp made a claim under a professional indemnity insurance policy that it held with CGU Insurance Ltd in relation to the insolvent trading claim brought against it by the Akron liquidators. Mr Crewe was also insured under that policy. CGU denied indemnity, relying upon the terms and exclusions in the policy. Crewe Sharp’s liquidators were not in a position to investigate CGU’s denial of indemnity.
The Akron liquidators applied to join CGU as a defendant under r 9.06 of the Supreme Court Rules and for leave to seek a declaration that CGU was liable to indemnify Mr Crewe and Crewe Sharp. In support of their application, the Akron liquidators relied on s 562 of the Corporations Act, which provides that a company or its liquidator is obliged to pay to a third party any amounts received from an insurer under a contract of liability insurance in respect of the company’s liability to the third party, in priority to s 556 debts. The Akron liquidators argued that CGU was liable under the insurance policy and, by reason of s 562, any amount received by Crewe Sharp or its liquidator from CGU in respect of the insolvent trading claims had to be paid to the Akron liquidators.
Section 117 of the Bankruptcy Act 1966 (Cth) provides that a trustee in bankruptcy has a similar obligation to pay to third parties amounts received under insurance contracts in respect of the bankrupt’s liability to them.
High Court decision
The plurality of the Court first considered the question of whether the Supreme Court had jurisdiction to consider the joinder application. It concluded that the matter fell within the Supreme Court’s federal jurisdiction and that it raised a justiciable controversy.
It then focused on the Akron liquidators’ statutory entitlement to be paid the proceeds of the insurance policy by Crewe Sharp’s liquidators in the event that they could make good their claim against Crewe Sharp and Mr Crewe, so as to establish CGU’s liability under the policy. The Court noted that if Mr Crewe became bankrupt, s 117 of the Bankruptcy Act would apply with similar effect with respect to his trustee in bankruptcy.
The plurality held that the Akron liquidators’ statutory entitlement should not be defeated merely by reason of inaction on the part of Crewe Sharp and Mr Crewe against CGU. Further, because the Akron liquidators’ claim was based upon their statutory entitlement under s 562 of the Corporations Act, it did not impinge on privity of contract.
In a separate judgment, Nettle J observed that, given that the directors had chosen not to prosecute their own claim for indemnity against CGU, it was “desirable and appropriate” for the Akron liquidators to seek a determination of the issues that would be binding on the directors and CGU. On the question of privity of contract, his Honour said that a plaintiff to whom s 562 of theCorporations Act or s 117 of the Bankruptcy Act gives a right to be paid from a contract of liability insurance responding to an insolvent or bankrupt defendant’s liability to the plaintiff cannot be described as an “outsider” to the insurance contract in any rational sense of the word.
Significance of the decision
The critical aspect of the High Court’s decision is the emphasis on the right vested in the Akron liquidators by s 562 of the Corporations Act. The decision does not articulate a blanket right on the part of a third party claimant to join an insurer to proceedings brought against an insured defendant.
Nonetheless, the decision is likely to have an impact on litigation brought against bankrupts and companies that are insolvent or that are potentially insolvent. In such litigation, where the bankrupt or insolvent company does not take steps to challenge its insurer’s denial of indemnity under the relevant insurance policy, the plaintiff who is a third party claimant under that policy can join the insurer and seek a declaration that the insurer is liable to indemnify the insured under the policy. Whilst this might mean better recovery prospects for those pursuing insolvent individuals and companies, for insurers it may mean a significant increase in exposure to third party claims.
By Gabi Crafti and Frank Aloe, JD Student RMIT University.
*The Court was constituted by French CJ, Kiefel, Bell, Keane JJ, and Nettle J, who provided a separate judgment.