Court of Appeal confirms flexibility of secured creditors to revalue security and withdraw unsecured claims in liquidation despite filing of proof of debt

3 December 2024

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In Sabah Development Bank Berhad v TYL Land & Development Sdn Bhd (Civil Appeal No. W-02(A)-743-04/2022), the Court of Appeal allowed an appeal against the decision of the High Court and clarified the legal principles regarding treatment of secured creditors in liquidation proceedings, particularly when the secured creditor submits a proof of debt.

This article provides an overview of the court’s decision.

Snapshot

Sabah Development Bank Berhad (“Bank”) provided various credit facilities, including term loans and bridging loans, (“Credit Facilities”) to TYL Land & Development Sdn. Bhd. (“Respondent”). The Credit Facilities were secured by several debentures (“Debentures”) and a legal charge (“Land Charge”) over a parcel of land (“Land”). The Respondent was engaged in a development project on the Land. However, the project was abandoned. In January 2019, the High Court ordered the Respondent’s winding up and appointed the Official Receiver (“OR”) as liquidator.

The Bank, in turn, appointed a receiver and manager over the Respondent’s assets under the Debentures. In December 2019, the Bank’s solicitors filed four proofs of debt (“PODs”) with the OR in respect of the Respondent’s liquidation. However, the PODs did not specify how much of the sum was secured by the Land Charge and how much was unsecured.

Subsequently, the OR communicated that the Bank’s PODs were being treated as unsecured debts. The Bank clarified that it did not intend to release its security and would not do so until the secured assets were realised. The Bank sought to replace the OR as the liquidator of the Respondent, a move opposed by Fajarbaru Builder Sdn Bhd (“FBSB”), another creditor of the Respondent, whom then applied to the court to replace the OR with their proposed liquidators. In September 2020, the court allowed FBSB’s application, appointing two individuals as the Respondent’s liquidators (“Liquidators”).

The Liquidators rejected the Bank’s request to expunge its PODs. The Bank then filed an application at the High Court to expunge its PODs (“Bank’s Expungement Application”) under Rule 95 of the Companies (Winding up) Rules 1972 (“CWUR”). Rule 95 essentially permits the court to expunge or reduce a claim in a proof of debt upon application by a creditor or contributory if the liquidator declines to interfere in the matter.

The High Court dismissed the Bank’s Expungement Application for the following reasons:

• Election to participate as unsecured creditor: The High Court held that the Bank had elected to participate in the Respondent’s liquidation as an unsecured creditor based on the Bank’s filing of PODs and its subsequent participation in a creditors’ meeting. The court found that by filing these PODs, the Bank had chosen under section 524(1)(b) of the Companies Act 2016 (“CA 2016”) to treat the remaining sum as an unsecured debt, thereby forgoing the option to act as a secured creditor.
• Estoppel from withdrawing PODs: The Bank was estopped from withdrawing or amending the PODs. The court reasoned that because the Bank had participated in the liquidation process and acted as an unsecured creditor (for instance, by voting at the creditors’ meeting), it could not later change its position. This conclusion was reached under the doctrine of equitable estoppel.
• Failure to properly address Rule 126 CWUR: The Bank’s participation as an unsecured creditor, in combination with Rule 126 of the CWUR, meant that the Bank had essentially surrendered its security over the charged land. The High Court interpreted Rule 126 to find that when a secured creditor votes on the entirety of their claim, both secured and unsecured portions, without appropriately valuing the security, they are deemed to have surrendered the security.
• Timing of the Bank’s Expungement Application: The court viewed the timing of the Bank’s Expungement Application as an afterthought, pointing out that the application was filed approximately 20 months after the initial filing of the PODs, and 19 months after the Bank voted as an unsecured creditor in the creditors’ meeting.
• No mistake in filing PODs: The court concluded that the Bank had not made any mistake when filing the PODs, rejecting their argument that the PODs were filed under a misunderstanding or that they were based on an outdated valuation of the security. The Bank had access to legal advice and was fully aware of its actions at the time of filing the PODs, and therefore could not claim it had mistakenly filed them.

The Bank appealed to the Court of Appeal.

Judgment

The Court of Appeal allowed the Bank’s appeal. The four PODs filed by the Bank were expunged under Rule 95 of the CWUR.

The appeal raised several important legal issues, particularly regarding the rights of secured creditors in the context of corporate liquidation, the interpretation of section 524 of CA 2016, the applicability of Rule 126 of the CWUR, and the doctrine of equitable estoppel in the context of liquidation.

Powers and rights of secured creditors

The Court of Appeal set out the following as being the powers and rights of a secured creditor in liquidation.

First, in accordance with section 524 of CA 2016, a secured creditor may:

• realise the property which is subject to a charge, if he is entitled to do so;
• value the security and claim in the winding up as an unsecured creditor for the balance due from the company to the secured creditor, if any; or
• surrender the security to the liquidator for the general benefit of the creditors and claim in the winding-up as an unsecured creditor for the whole debt.

Second, per section 524(8) of CA 2016, the liquidator of the company may serve a written notice to require the secured creditor to:

• elect which of the powers the creditor wishes to exercise; and
• exercise his power within a specified period if the creditor elects to value the property and claim in the winding-up as an unsecured creditor for the balance due, or surrender the charge and claim as an unsecured creditor for the whole debt.

If the secured creditor fails to make an election, he is deemed to have surrendered his security and may claim in the liquidation as an unsecured creditor for the whole debt.

Third, in the absence of the notice under section 524(8) of CA 2016, the secured creditor may exercise its power to sell the security. It is necessarily implied that for the purpose of an effective exercise of the secured creditor’s power of sale, the secured creditor would be entitled to revalue the security so that it is not sold at a gross undervalue or withdraw or amend the secured creditor’s unsecured debt portion in its proof of debt.

Thus, the Court of Appeal agreed with the Bank’s contention that section 524(2) of CA 2016 preserves the right of a secured creditor to revalue its security and unsecured claims in the liquidation, even after filing PODs.

Application of Rule 126 CWUR

Rule 126 of the CWUR provides that for the purposes of voting in a creditors’ meeting, unless a secured creditor surrenders his security, he shall state in his proof or in a voluntary liquidation in such statement the particulars of his security, the date when it was given, and the value at which he assesses it. He shall be entitled to vote only in respect of the balance (if any) due to him after deducting the value of his security. If he votes in respect of his whole debt he shall be deemed to have surrendered his security, unless the court on application is satisfied that the omission to value the security has arisen from inadvertence.

The Court of Appeal rejected the Liquidators’ argument that Rule 126 of the CWUR barred the Bank from withdrawing or amending its PODs. It noted that the Bank had only voted on the unsecured portion of its debt and had not voted for the entire sum. Therefore, the court found that the rule did not apply in this case. The Bank’s actions did not amount to a surrender of security, and it retained the right to enforce its charge.

Equitable estoppel

The Liquidators argued that the doctrine of equitable estoppel should prevent the Bank from changing its position regarding the PODs. They contended that by filing the PODs and participating in the creditors’ meeting, the Bank had led other creditors and the Liquidators to believe that it was surrendering its security and claiming as an unsecured creditor.

The Court of Appeal disagreed, stating that equitable estoppel, a doctrine based on case law, cannot override statutory provisions. In particular, section 524 of the CA 2016 expressly allows secured creditors to revalue their security and withdraw their claims, and this statutory right cannot be negated by the application of equitable estoppel.

Comment

The Court of Appeal’s decision provides crucial clarity on the rights of secured creditors during liquidation.

One of the central legal issues in this case was the interpretation of section 524 of CA 2016, which provides secured creditors with several powers in the context of a company’s liquidation. In this case, the Bank had filed PODs that did not differentiate between secured and unsecured portions of its claim, and it participated in the liquidation process as an unsecured creditor. Later, the Bank sought to withdraw its PODs after discovering that the Land securing its loans had significantly increased in value, which allowed it to enforce the security rather than claim as an unsecured creditor.

The decision of the Court of Appeal clarified that section 524(2) of the CA 2016 preserves the flexibility of secured creditors to revalue their security and withdraw their unsecured claims in liquidation, even after filing PODs. This flexibility is critical, as it ensures that secured creditors can amend their proof in light of subsequent developments, such as an increase in the value of their security. This is a practical application of the law that ensures that creditors are not forced to sell their security at an undervalue or lose out on enforcing their charge.

The court also clarified that a secured creditor is taken to have surrendered its security only if the secured creditor votes on the whole debt without valuing the security. In this instance, the Bank had voted only on the unsecured portion of its claim, meaning that the Bank had not surrendered its security. A key takeaway from this decision is that secured creditors should vote carefully in creditors’ meetings and ensure that they vote only on the unsecured portion of the debt, if they wish to retain their security.