Creditors should be very wary when pressing debtors for payment
in circumstances where the debtor may be insolvent due to the
"claw back" provisions granted to liquidators.
Liquidators may in certain circumstances claw back payments made by
a company shortly before it is placed into liquidation.
Part of a liquidator's role is to ensure an orderly and
equitable distribution of the company's assets between
creditors. A liquidator will scrutinise company records to
determine whether any creditor has received an inequitable
distribution from the company before the winding up – that
is, that the creditor received preferential treatment. Usually
preferential treatment is in the form of a payment, but almost any
transfer of property and even some creation of property (for
example, a mortgage) may be an unfair preference.
Preference payments can be "unfair" in circumstances
The creditor and debtor are parties to a transaction
The debtor is insolvent
The transaction results in the creditor receiving a payment
from the debtor for an unsecured debt with the payment amount
greater than what the creditor would have received if it had,
instead of receiving the payment, lodged a proof of debt in the
liquidation or bankruptcy of the debtor.
Such payments are called "unfair preferences" because
after receipt of payment, the creditor recovers more than what it
would have if the creditor had proved in the liquidation of the
insolvent debtor, thereby obtaining an unfair preference over other
creditors who have lodged proofs of debt in the liquidation. The
Corporations Act 2001 (Act) provides liquidators with
broad powers to recover "unfair preference" payments.
Resisting an unfair preference claim
In order to defend an unfair preference claim, a creditor must
prove on both a subjective and objective basis that they had no
grounds for suspecting the insolvency of the company. The defence
is set out in section 588FG of the Act, and the creditor bears the
onus of proof.
In establishing the defence the creditor must prove:
It became a party to the transaction in good faith
They had no reasonable grounds to suspect the company was
insolvent at the time of the transaction
A reasonable person in their position would have had no grounds
for suspecting the company was insolvent
They provided valuable consideration for the transaction.
Whilst each of these elements must be proved by the creditor,
the main limb of the statutory defence is that the creditor had no
suspicion of insolvency. An example of the operation of this limb
is where a liquidator says that there were grounds for suspecting
insolvency if the company was slow to pay the creditor, or that the
creditor had demanded payment - however, this alone is generally
insufficient to establish suspicion.
Additionally, creditors can resist an unfair preference claim by
showing that they were trading with the company on a 'running
account', also known as a 'continuing business
relationship'. This applies where there is a continuous supply
of goods or services by a creditor and intermittent paying down of
the debt by the company. In these circumstances, the Court will
consider the net reduction of the debt owed to the creditor over
the relevant period of time. If the company's total debt owed
to the creditor has increased or remained the same over that time,
then there may be no unfair preference. If the total debt has
decreased, there may have been an unfair preference for the amount
of the decrease. The operation of 'running account'
principles is technical and will depend on the particular
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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A recent NSW decision has implications for liquidators of trustee companies dealing with trust funds and priority debts.
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