Who is responsible for debts and liabilities after the breakdown of a relationship?

When people separate after a relationship breakdown, their priority is usually the division of the assets. This could include the house, car, shares, savings, superannuation and other types of assets. What shouldn’t be overlooked is the equally important division of the debts and liabilities

Some debts are easily addressed, for example, mortgage debt and credit card debt can often be paid off with the proceeds from real estate sale. Sometimes there are not adequate assets to sell in order to pay out a debt in full and if the debt was incurred in both names, then both parties remain liable to the creditor.  A creditor is entitled to chase both parties to recover payment and will recover payment to the maximum extent possible from one party if the other one is unable to pay and/or cannot be located.

Debts, regardless of whether they are held in joint names or one name only, are taken into account when determining the value of the net asset pool. The issue then becomes who is actually going to pay it and what can be done if the creditor is not willing to let either debtor ‘off the hook’.

Separated people can set out as part of their agreement, and document in a Court Order, that he or she will fully discharge a debt incurred in joint names, or a debt incurred in the name of the other person.  Along with a commitment to make the payments, an indemnity is offered which is a commitment to take care of the payment and protect the non-paying debtor from any potential recovery actions by the creditor. 

This is all great in theory but indemnity is no protection against the creditor’s rights to recover the debt from the actual named debtor/s. It is unusual for a creditor to agree to change an unpaid debt from being owed by two people to be owed by one only or to change the debt from being owed entirely by one party to be owed entirely by the other.  This has traditionally left couples seeking to finalise their debts and liabilities in a precarious situation.  

However,  there is a remedy available to people seeking property settlement Orders in the Family Court or Federal Circuit Court.  Section 90AE(1) of the Family Law Act enables the Court to order that a creditor of the parties must substitute one party for both parties, or must substitute one party for the other.  The Court can also order the creditor to treat the two parties as being liable in different proportions. 

Rather than relying on a promise to pay and an indemnity which holds limited legal weight, if the debt is not going to be paid out quickly after the Court Order is made, it would be worthwhile seeking an order to transfer the name in which the debt was held, in a way which binds the creditor to accept this. Orders of this nature are not imposed upon a creditor without that creditor being given advance notice of the application and an opportunity to express their own views on the matter. 

A recent example of this occurred in the Federal Circuit Court. A married couple, Mr and Mrs Tomaras, had been separated for a number of years. They were unable to agree on aspects of their financial situation and sought an Order from the Court in regard to their property settlement.

During their marriage, Mrs Tomaras had raised a significant tax debt as a number of annual assessments were not paid and penalties and interest on these debts accrued. It’s a common tax minimisation strategy for the less wealthy partner in a relationship to incur a tax liability for the benefit of the wealthier spouse and the family overall. Despite this, the tax bills still need to be paid and neither Mr nor Mrs Tomaras had done so. Mr and Mrs Tomaras later separated and in that same year, the Federal Commissioner of Taxation (FCT) obtained a judgment against her for non-payment of her tax liability. 

Some years later, and with their financial situation still not resolved, Mr Tomaras went bankrupt.

It was around this time that Mrs Tomaras started the Federal Circuit Court case and asked the Court to make an Order transferring the tax liability from herself to Mr Tomaras. 

The Federal Circuit Court Judge who heard the case was concerned that Section 90AE did not enable the Judge to make an Order where the creditor was the Federal Commissioner of Taxation.  It is settled law that statutory provisions expressed in general terms do not bind the Crown (in this instance, the FCT) and it is often argued that unless a specific reference is made in the legislation to one of the several entities which can constitute the Crown, the remedy set out in the legislation (in this case, S 90 AE) won’t apply.

With this element of doubt, the Federal Circuit Court Judge asked the Full Court of the Family Court to provide an answer about the applicability of Section 90AE to taxation debts. 

The decision of the Full Court was that this could indeed be done by the Federal Circuit Court.  The Full Court considered that this approach could actually be beneficial to the FCT in that by transferring the debt to the wealthier spouse who may become solely liable or assume part liability, it could increase the prospects of recovery of the debt.  The Full Court also considered that an Order could not be made if it was foreseeable that the Order would result in the debt not being paid. This may be the case in a situation involving bankruptcy, such as Mr Tomaras’.

Frustratingly, while the applicability of S 90 AE was clarified, the Full Court did not decide on whether or not Mr Tomaras was to be substituted for Mrs Tomaras and the subsequent decision of the Federal Circuit Court Judge has not been published, meaning the outcome of this case is currently unknown.  

S 90 AE provides a method to ensure that debts and liabilities can become a binding responsibility on either party and a reassurance that it must be recognised by the creditor. This removes much of the risk which was previously carried with the provision of an indemnity. It means that the wealthier spouse could be substituted for the less wealthy spouse and be liable to pay a debt which was incurred during the relationship, which could help create fairer property settlements in some situations.

It is worth noting that at the time of writing this article, the FCT had been granted special leave to appeal to the High Court. Should they do so, there may be further developments regarding the application of S 90 AE where taxation liabilities are concerned. 

This article was written by Partner, Jennie Goodale

Practice Area: Family Law

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