This article was written by Tony Troiani, Georgia Boyce and Sarah Lethlean
A recent decision of the Federal Court has confirmed that a secured creditor who consents to employee creditors being paid out of the charged asset pool is entitled to be subrogated to the priority rights of those employee creditors.
Australia and New Zealand Banking Group Limited (ANZ) was the only secured creditor of Akron Roads Pty Ltd (Akron), holding fixed and floating charges over all of Akron’s undertakings and assets. In 2010, liquidators were appointed to Akron.
At the time of commencement of the liquidation, the liquidators had identified a number of potential avenues for the recovery of funds (unfair preferences; insolvent trading) which would ultimately be available for distribution to priority employee creditors. However, it would likely take some time (possibly years) for those recovery actions to bear fruit. In the meantime, the liquidators realised assets which were subject to ANZ’s charge, including the “floating” (or circulating) part of the charge.
Rather than withholding dividends until finalisation of the liquidators’ recovery actions, the liquidators sought ANZ’s consent to make an early interim distribution to employee creditors using the proceeds of realisation of charged assets - notwithstanding that such consent was possibly not required, by virtue of section 561 of the Corporations Act 2001 (Cth) (the Act).
In requesting ANZ’s consent, the liquidators noted that ANZ may be entitled to be subrogated to the rights of those priority creditors who were to be paid out of the charged funds. ANZ agreed to the interim distribution, reserving its rights, including any right it may have to be subrogated to the position of priority creditors. The liquidators then made distributions totalling $1,455,085 to the priority employee creditors from the charged funds.
The liquidators’ recovery actions subsequently realised further distributable funds and the liquidators sought directions from the Federal Court that they were justified in regarding ANZ as subrogated to the rights of the employee creditors, to receive priority under section 556 of the Act, in respect of the $1,455,085 previously distributed to the employee creditors.
In Blakeley, in the matter of Akron Roads Pty Ltd (in liq)  FCA 1378 (Blakeley), Justice Anderson found that the liquidators were justified in regarding ANZ as subrogated in equity to the priority rights of employee creditors, in circumstances where the liquidators paid priority debts of the employee creditors from proceeds of ANZ’s floating charge assets with ANZ’s consent.
The liquidators were directed to pay the $1,455,085 to ANZ.
1.3 Unconscionability where there was no breach of trust by the liquidators
The remedy of equitable subrogation is only available in circumstances where it would be unconscionable for the defendant to deny the proprietary interest claimed by the plaintiff.
Previously in Cook (Liquidator), in the matter of Italiano Family Fruit Company Pty Ltd (in liq) v Italiano Family Fruit Company Pty Ltd (in liq) (2010) 190 FCR 474 (Cook), the Federal Court recognised that the right of equitable subrogation was available where there had been a breach of trust by the liquidators. In that case, the liquidators had paid the proceeds of the sale of assets subject to a floating charge to employees, rather than holding them on trust for the bank until the sufficiency of the free assets to pay employee creditors had been determined. Finkelstein J identified the unconscionable breach of the trust in favour of the chargeholder as the basis upon which the bank could be subrogated to the priority position of the employee creditors.
The decision in Blakeley extends the availability of equitable subrogation to circumstances where there was no breach of trust because the liquidators had obtained the consent of the secured creditor before making the interim distribution to employee creditors. The decision clarifies that equitable subrogation will be available in such circumstances because it would be unconscionable:
(a) for Akron to escape the liability which had been discharged by the assets subject to the ANZ’s security; and
(b) for Akron (and indirectly, its unsecured creditors) to enjoy a windfall.
1.4 Does a secured creditor need to expressly preserve their rights?
In Cook it was observed that a secured creditor’s subrogation to employee creditors is analogous to one of the classic cases for subrogation; being where a person pays out a secured debt of another. In such cases the secured creditor is presumed to intend to keep the security alive for their own benefit.
In Blakeley, ANZ expressly preserved its right to equitable subrogation. It therefore remains an open question whether such an express intention is required, or whether the act alone of consenting to payment of employee entitlements from charged assets will be sufficient to preserve the right of subrogation for the secured creditor. Following Blakeley, secured creditors can confidently consent to payment of employee entitlements from charged assets, but would be well advised to expressly preserve their right to equitable subrogation. If a secured creditor resolves to provide its consent to a liquidator making an early distribution to employee creditors (out of proceeds of circulating security assets), it would be prudent do so on the express basis that the liquidators will seek appropriate directions as to subrogation in due course.
 Blakeley at 26.
 Cook at 109; Blakeley at 29 and 33.
 Blakeley at 33.
 Cook at 110.
 Blakeley at 29.