How to fight a Liquidator’s Unfair Preference Claim
What to do when faced with a liquidator pursuing you for alleged Unfair Preference Payments? Here Mark Harley looks at the latest defences that may be available to creditors and how to assess your potential exposure under the Unfair Preference regime.
What is an Unfair Preference Claim?
Unfair Preferences are the most common type of voidable transaction and occurs where a creditor has received an advantage over other creditors, by receiving payment (or other type of transaction) for their outstanding liabilities and does so in circumstances where they knew, or ought to have known, that the company was insolvent.
The Legal Test
Essentially, Unfair Preference provisions can be reduced to the following:-
- The transaction being attacked must be a transaction of the company;
- The company and the Creditor are parties to the transaction;
- The transaction confers a preference with respect to an unsecured debt of the company to the creditor;
- The Company was insolvent at the time the transaction was entered into, or the company becomes insolvent because of the company entering into the transaction; and
- The transaction was entered into during the relevant period prior to the winding up of the company.
Situation where an Unfair Preference claim can arise
Broadly speaking, an Unfair Preference received by a creditor can occur when:
- a debtor company owes a creditor an unsecured debt; and
- the debtor company and the creditor are parties to a transaction (usually payment of some or all of the unsecured debt); and
- receipt of the payment results in the creditor receiving more than it would have received had the debtor company been in liquidation and the liquidator paid all unsecured creditors a dividend.
An Unfair Preference for an insolvent transaction does not apply to secured debt.
Defences to Unfair Preference Claims
No suspicion of insolvency (often referred to as the good faith defence);
You can defend an Unfair Preference claim on the basis that you had absolutely no idea that the company you were dealing with was insolvent. However, the onus lies on the creditor to make out the defence on the balance of probabilities.
In order to successfully raise a defence pursuant to Section 588FG (2) of the Act, a creditor must establish:-
- that it received the payments from the Company in good faith; and
- at the time of the relevant payment:-
- the creditor had no reasonable grounds for suspecting that the Company was insolvent at that time or would become insolvent as a result of making the payments;
- a reasonable person in the creditor’s circumstances would have had no such grounds for so suspecting; and
- that the creditor provided valuable consideration for the payments.
Debt is secured
For a liquidator to bring an Unfair Preference claim against a creditor, they should be satisfied the payment was made in relation to unsecured debts. While the Corporations Act doesn’t define unsecured debt, it does define ‘secured party’ as those with a PPSA security interest (Personal Property Securities Act). A trade creditor may have their debt be secured by:
- Consigning goods – a security interest over the goods until purchase and payment occurs
- Bailment – handing over possession of goods to somebody else for two years or more (or for an indefinite period in certain situations)
- Retention of Title over the assets supplied until payment occurs.
As a trade credit supplier, including a Retention of Title clause in your terms of trade, may give you a security interest over your customer. With this security interest, you can register on the Personal Property Securities Register (PPSR) and claim to be a secured creditor.
If you’ve received payments before your customer goes into liquidation and you’re being pursued for Unfair Preferences claims, you may be able to use the defence that you were secured at the time the payment came in.
The running account defence
The running account reduction can be an effective way to reduce your risk of Unfair Preferences if there has been ongoing trade. This calculation considers that there has been continuous supply during the relevant Unfair Preference period, rather than the more common approach by liquidators of just looking at the payments received over that time.
Set off unpaid debt.
Section 553C of the Corporations Act can assist creditors under which mutual debts are set-off in a liquidation. Liquidators are allowed to set-off mutual claims as against each other in proofs of debt. For example, a creditor may put in a proof of debt for $200,000, but if the creditor actually owes $100,000 to the customer, then the liquidator can argue that this has to be reduced down to $150,000 on the basis of the set-off.
There is some case law that has allowed setting-off by creditors on debts owed to them as against the liquidator’s Unfair Preference claims
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If you have a question about unfair preference claims, or you have received a demand by a liquidator, or want some more information or would just like to speak to someone, make an enquiry now and our Commercial Litigation team will be in touch with you as soon as possible.
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