Understanding Unfair Preference Payments
Insolvency law has become a generic term for what used to be called company liquidations and bankruptcy. Insolvency is defined by the Corporations Act as an inability to pay debts, as they fall due, out of the debtor’s company resources and refers specifically to businesses and companies. If you find your business starting to head in this direction, or perhaps you are already surrounded by the chaos and confusion of insolvency, one of the many important things to be aware of are Unfair Preference payments and how they could influence your business as well as others.
An Unfair Preference is given by a company to a creditor of the company (an entity that the company owes money to) in respect to a transaction. In order to be able to be considered as an Unfair Preference payment, it must be deemed that the company and the creditors are parties to the transaction and this transaction must occur in the six months before the company went into liquidation. As a result, a debtor/creditor relationship must have existed between the creditor and the liquidated company at the time the payments were made. Additionally, the transaction must result in the creditor receiving more from the company (in respect to an unpaid debt) than it would have received if the debt owed was set aside and the creditor were to prove for the debt in the winding up of the company.
The below example of an Unfair Preference payment helps to explain how Unfair Preference payments can be applied:
John’s company is in trouble as it has little cash available, he owes the ATO $200,000, his lawyer $4000 and his regular catering company $1000. With his last $1000 he decides to pay back the money he owes to the catering company before John’s business becomes insolvent.
Two months later John’s company becomes insolvent and the liquidators of his business get in contact with the catering company. They ask for the $1000 back from the catering company claiming that the payment was an Unfair Preference. The catering company provided John a service and got paid for this service.
The legislation regarding Unfair Preference payments prevents a creditor from jumping to the front of the queue of the general creditors, all of whom should be paid equally. Luckily, the legislation has taken into account the unfairness to some creditors in this situation. However, the liquidators don’t have complete control in recalling payments to the liquidated company’s creditors, as certain defences such as the “running account” and “good faith” are sometimes able to negate the liquidator’s claims.
Some forms of transactions that can be considered under the Unfair Preferences legislation include:
- A conveyance or transfer of the property of a party.
- A guarantee given by a party.
- A payment made by a party.
- An obligation incurred by one of the parties.
- A loan given from one party to another.
In certain situations, a holding company may provide payments to creditors of the company before it goes into liquidation. Liquidators are still able to recover these payments as unfair preference payments. These cases are exceptions and there are further elements that will need to be taken into account in order to recover these payments.
If your business is in trouble or you are having trouble meeting your financial obligations or you are the creditor of a liquidated company and have received a letter of demand from a liquidator, it is imperative that you seek legal advice for your business as a matter of urgency. Here at The Quinn Group We are able to provide you with more information, advice and help you through this difficult time. Submit an online enquiry or call us on 1300 QUINNS (784 667) or on +61 2 9223 9166 to make an appointment.