January 27 2014
Can be a significant risk for businesses
When an insolvent company goes into liquidation it’s accepted that not all creditors will get paid 100 cents in the dollar. However it often comes as a shock to creditors when the liquidator requires them to refund payments that had been made up to two years before the company was liquidated.
The liquidator of a company has an obligation under the Companies Act 1993 to fairly distribute the company’s assets to its creditors. In doing so the liquidator may choose to claw back payments which the company made from up to two years before the liquidation. The liquidator then makes those funds available to the general body of creditors. The payments that are clawed back are called ‘voidable transactions’.
Voidable transactions pose a significant risk for businesses that trade on a credit basis; the construction industry is a particularly good example. In the last six years following the 2008 property market collapse, there have been numerous liquidations of companies throughout the construction industry and, consequentially, many demands for repayment of transactions considered ‘voidable’.
It’s about fairness to all
The voidable transaction regime, as contained in ss292-296 of the Companies Act, operates on the assumption that a liquidated company trades while insolvent for some time before it’s placed into liquidation. It’s therefore considered fair that all parties who traded with the company during that period of insolvency bear an equal burden of having traded with an insolvent company. While a demand from a liquidator to refund a, usually long overdue, payment may not seem that fair when you receive it, the overall objective of the voidable transaction regime is not to penalise creditors but to achieve fairness to all. This fairness is achieved by, in the words of the Court of Appeal, “swell[ing] the pool of funds available to the company to be shared rateably amongst all creditors”¹.
Transactions are considered voidable under s292 if two criteria are met. First, the payment must have been made when the company was unable to pay its debts. Second, the payment must allow the recipient to receive more than they would have received in the company’s liquidation. During the six months immediately preceding the start of the liquidation, the company is presumed unable to pay its due debts. In other words, the first criteria is presumed to be met. Outside this period the liquidator must show evidence that the company was unable to pay its bills. Whether a payment allows the recipient to obtain more in a liquidation than they would have otherwise received is a straight comparison between the amount the recipient actually received and the amount that the recipient would have as part of the general body of creditors in the liquidation, had the payment not been made.
Transaction perhaps not voidable?
Under s296(3) transactions are not voidable if the recipient can demonstrate all three of the following when they received payment: they acted in good faith, a reasonable person in their position would not have suspected that the company was (or would become) insolvent, and they gave value for the property or altered their position in the reasonably held belief that the payment was valid.
While there‘s no sure way to avoid having payments clawed back under the voidable transactions regime, the following may limit your exposure:
- If you supply goods on credit, ensure that those goods are the subject of a security interest properly registered on the Personal Property Security Register, and
- If you have any reason to suspect that a company is facing financial difficulties, insist that all future transactions are conducted on a cash on delivery basis.
It’s also important that you respond promptly to a demand for repayment of a voidable transaction. If you don’t file and serve an objection notice within the statutory period of 20 working days, it may result in the liquidator’s decision being unchallengeable² and, by default, you will required to make the repayment.
¹ Farrell v Fences & Kerbs Limited  NZCA 91
² Bond Cargo Ltd v Chilcott (1999) 13 PRNZ 629