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Supreme Court 30 June 2011

Hraiki v Hraiki

[2011] NSWSC 656

Fraud & dishonesty
EQUITY CONSTRUCTIVE TRUST KNOWING ASSISTANCE LIABILITY TO THIRD PARTIES PARTNERSHIP ACT 1892, S 10

Citation: Hraiki v Hraiki [2011] NSWSC 656
Court: Supreme Court of New South Wales
Date: 30 June 2011
Judge: White J

Background

George Hraiki and his daughter Colleen owned a property in Bankstown in equal shares with George's son Rodney. In 2007, George and Colleen agreed to buy out Rodney's one-third interest and refinance the existing mortgage, intending to borrow approximately $300,000 for that purpose. They engaged a relative, Sam Hraiki, to assist with finance arrangements.

Without the plaintiffs' knowledge or authorisation, a mortgage for $600,000 was executed. After paying out Rodney and discharging the existing mortgage, a surplus of approximately $260,000 remained. That surplus was directed by Sam Hraiki into the bank account of an accounting firm, Finn Warner & Associates, and then substantially withdrawn on Sam's instructions: $100,000 in cash to Sam himself, $155,500 to his sister, and smaller amounts elsewhere.

Peter Finn (the third defendant) was a partner in Finn Warner & Associates who dealt with Sam Hraiki and allowed his firm's account to be used in this way. Kerry Warner (the fourth defendant) was Finn's partner but had no personal involvement in the transaction. George Hraiki sought to hold both accountable: Finn as a constructive trustee for knowingly assisting Sam Hraiki's breach of trust, and Warner vicariously as Finn's partner under the Partnership Act 1892 (NSW).

  • Whether the plaintiffs authorised the payment of the surplus funds to Finn Warner & Associates
  • Whether Sam Hraiki held the misappropriated funds on constructive trust for the plaintiffs
  • Whether Peter Finn was liable as an accessory to Sam Hraiki's breach of trust on the basis of knowing assistance (the second limb of Barnes v Addy)
  • Whether Kerry Warner was vicariously liable for Finn's conduct under s 10 of the Partnership Act 1892 (NSW), as a wrongful act committed in the ordinary course of the firm's business

Decision

White J found that the plaintiffs did not authorise the payment to Finn Warner & Associates. Sam Hraiki was liable to account as a constructive trustee for the funds paid into and disbursed from the firm's account, having fraudulently misappropriated them.

On the knowing assistance question, the court found that Finn had the requisite knowledge to be fixed with liability as an accessory. Although Finn claimed he believed the funds were proceeds of a property sale by Sam, the court found he had deliberately refrained from making inquiries out of fear of what those inquiries might reveal. That deliberate failure to inquire satisfied the third of the five categories of knowledge identified in Baden v Société Générale and accepted in Australian law, sufficient to ground liability under the second limb of Barnes v Addy. Finn had also received a personal benefit from the transaction that he did not account for to the partnership.

On the partnership liability question, the court declined to hold Warner vicariously liable. White J accepted that the ordinary course of business of Finn Warner & Associates included drawing cheques against uncleared deposits for Sam Hraiki. However, on the facts, Finn had not been pursuing the firm's business when he assisted Sam Hraiki. He had acted for personal reward unaccounted to the partnership, and was engaged, as Lord Millett described in Dubai Aluminium Co Limited v Salaam, "on a frolic of his own." That conclusion meant s 10 of the Partnership Act did not extend liability to Warner.

A residual proprietary claim succeeded in a modest amount. A balance of $56.52 traceable to the plaintiffs remained in the Finn Warner account. Warner, having received those funds as a volunteer, was required to account for that sum.

Orders Made

  • Judgment for the plaintiffs against the fourth defendant (Kerry Warner) in the sum of $56.52, together with interest under s 100 of the Civil Procedure Act 2005
  • The parties were to be heard on costs

Key Takeaways

  • A person who deliberately refrains from making inquiries about suspicious circumstances, for fear of what those inquiries might reveal, satisfies the third Baden category of knowledge and can be held liable as an accessory under the second limb of Barnes v Addy for knowing assistance in a breach of trust.

  • Under s 10 of the Partnership Act 1892 (NSW), a firm is not liable for a partner's wrongful act merely because that act superficially resembles the kind of work the firm ordinarily does. Where a partner acts for personal gain unaccounted to the partnership, a court may conclude the partner was acting on "a frolic of his own" rather than in the ordinary course of the firm's business.

  • Receipt of funds as a volunteer, even without any wrongdoing, can ground a proprietary claim requiring the recipient to account for traceable proceeds, as confirmed by reference to Heperu Pty Limited v Belle [2009] NSWCA 252.

  • The distinction between a partner acting within the ordinary course of firm business and acting purely for personal purposes is fact-specific. Even where the firm's ordinary business includes transactions of a similar type, a partner's undisclosed personal reward can take the conduct outside the scope of partnership liability.

  • Fraudulent misappropriation of funds paid without authorisation into a third party's account can constitute a breach of constructive trust, with both the primary wrongdoer and any knowing assistant potentially liable to account for the full amount misappropriated.

Legislation and Cases Referenced

Legislation
- Partnership Act 1892 (NSW), s 10
- Bankruptcy Act 1966 (Cth), s 60(2) and (3)
- Civil Procedure Act 2005 (NSW), ss 100, 101

Cases
- Barnes v Addy (1874) LR 9 Ch App 244
- Farah Constructions Pty Limited v Say-Dee Pty Limited [2007] HCA 22; (2007) 230 CLR 89
- Dubai Aluminium Co Limited v Salaam [2002] UKHL 48; [2003] 2 AC 366
- Heperu Pty Limited v Belle [2009] NSWCA 252; (2009) 76 NSWLR 230
- National Commercial Banking Corporation of Australia Ltd v Batty [1986] HCA 21; (1986) 160 CLR 251
- Kooragang Investments Pty Ltd v Richardson & Wrench Ltd [1982] AC 462
- Westdeutsche Landesbank Girozentrale v Islington London Borough Council [1996] AC 669
- Black v S Freedman & Co (1910) 12 CLR 105
- Walker v European Electronics Pty Ltd (in liq) (1990) 23 NSWLR 1
- Robb Evans of Robb Evans & Associates v The European Bank Ltd [2004] NSWCA 82; (2004) 61 NSWLR 75
- Chittick v Maxwell (1993) 118 ALR 728
- Estate Realties Ltd v Wignall [1992] 2 NZLR 615