The section 133(9) shakedown: how the law fails to protect caveators in cases of onerous covenants

The operation of section 133

The law currently provides an easy out for trustees of a bankrupt, specifically in respect of real property. Section 133 of the Bankruptcy Act 1966 (Cth) (the Act) provides an option for the trustee in bankruptcy to disclaim real property where it is burdened by onerous covenants. This disclaimer is often exercised where the amount owed in the form of a mortgage and further caveats or covenants registered on title of the real property exceeds the value of the property.

The disclaimer discharges the trustee from all personal liability in respect of the property, subject to any mortgages on title if the property is vested in the state. The disclaimer is only effective when the trustee gives written notice to anyone who has an interest in the property, including the relevant land titles office. The notice must also identify the bankrupt and the property being disclaimed. Quite often, the trustee will disclaim the property in order to avoid the continuous costs and time involved in managing the land within a bankrupt estate. Once the property is vested in the state as registered proprietor, this means that while mortgagees have a vested interest in the land, they are effectively unable to exercise their power of sale without utilising section 133(9) of the Act.

Are you a caveator? How do you prevent yourself from being locked out from debt recovery during bankruptcy proceedings? Is lodging a section 133(9) application the answer? While the notice of disclaimer could potentially be set aside in court, the timeframe to do so is limited and often parties do not realise the potential for such a disclaimer to limit the chances of recovering debts Instead, the law provides relief for debtors in this situation by providing an option in form of a section 133(9) application to the court for a vesting order to settle debts owed. Often, it is banks as registered mortgagees who have a mortgage interest that exceeds the value of the bankrupt’s interest in the property. So far, section 133(9) has only successfully been used to protect banks essentially leaving businesses with registered caveats high and dry.

What is a Section 133(9) application? How does it work?

Section 133(9) of the Act allows an interested party to file an application with the Federal Court of Australia seeking orders that vests the real property of a bankrupt in them, to allow for the recovery of debts through the sale of the property as a registered proprietor. A vesting order is a court order that grants legal title in lieu of a legal conveyance, meaning it operates as an equitable remedy. This means that the courts may use their discretion to transfer property from one party to another where fairness demands it. As such, in applying for a vesting order pursuant to section 133(9) of the Act, you would have to show that fairness mandates that the legal title of the property should be transferred to a particular a party. It is a long-standing principle of the courts that an application can be made by any party who sees fit. However, the application must satisfy the court that it is just and equitable to vest the title of the property in the applicant.

When will the courts regard it as being ‘just and equitable’ to grant a section 133(9) application?

In determining whether parties have a just and equitable interest in the land, the courts established in National Australia Bank Ltd v New South Wales (2009) 182 FCR 52 that if the mortgage on title exceeds the value of the bankrupt’s share in the property, then the mortgagee or caveator, is likely to be entitled to a vesting order. For example, if a caveator is owed $100,000 in a bankrupt estate, in order for the court to be satisfied that a vesting order should be made, the court would need to be satisfied that the value of the caveator’s security exceeds the value of the bankrupt’s share in the property. Therefore, the value of the bankrupt’s share in the property would have to be less than $100,000.

If there are numerous mortgagees and caveators with interests on title, this can place a party who holds security over the bankrupt’s property in a costly and onerous position. Specifically, parties would have to engage in costly legal proceedings to secure their interest in disclaimed land that is likely to leave a shortfall when sold. Ultimately, this would mean that secured parties could end up spending more on legal fees than they would be likely to receive via a vesting order.

What if you are a caveator rather than a mortgagee?

Although there is no impediment to a caveator making an application to the court for a vesting order pursuant to section 133(9) of the Act, the effect of the ‘just and equitable test’ is such that the interests of mortgagees, who are generally owed significantly more money than caveators on title, are provided greater protection under the Act. Unfortunately, this often results in caveators often being left in a position where they cannot seek a vesting order and are therefore unable to seek the protection afforded by Section 133(9).

How can caveators protect their positions in cases of bankrupt estates?

As you can see, the current situation with section 133(9) applications demonstrates a clear lack of protection for caveators in bankruptcy compared to mortgagees. This means that caveators are in a weaker position than mortgagees when it comes to recovering their debts. Ideally, section 133(9) needs to be re-drafted in order to balance the rights of mortgagees and caveators in cases of bankrupt estates.

As the situation stands at the moment, if you are a caveator, you should try to protect your position by:

• Being aware of any interest you have in a property, as well as of your rights, should a trustee wish to disclaim their interest in the event that the property becomes part of a bankrupt estate.
• Contacting other interested parties to allow for the prompt sale of the land without the need for any disclaimer. This would mean that, if the property is sold, you would have a greater chance of recovering your debts because you would avoid the need to apply for a vesting order against parties who have a stronger interest on title that would have little prospect of success. In this way, you could save yourself both time and unnecessary costs.

Finally, if a trustee files a notice of disclaimer, you should immediately ensure that they have complied with the requirements in filing a notice of disclaimer. You should then establish your rights at an early stage in the process because this will help to determine whether you should file a s 133(9) application.