Liquidators and administrators are required to investigate a company’s prior dealings with a view to maximising a company’s assets. They have a range of powers to fulfil their role including the power to investigate transactions that took place prior to insolvency. These are known as reviewable (or antecedent) transactions.
The officer-holder’s right to challenge such transactions is predominantly found in the Insolvency Act 1986 (IA). The main types of reviewable transactions set out in the IA are:
- Transactions at an undervalue (IA, section 238)
- Preferences (IA, section 239)
- Transactions defrauding creditors (IA, section 423)
- Extortionate credit transactions (IA, section 244)
- Invalid floating charges (IA, section 245)
A brief overview of each of these is provided below.
Transactions at an undervalue (TUV)
A TUV occurs when a company enters into a transaction where it provides consideration (e.g. cash or an asset) and in return receives either no value or significantly less value than what was provided. For example, if a company makes a gift to one of its directors or sells an asset to a connected company for significantly less than market value. To be challengeable, the relevant transaction must have occurred during the two-year period before the onset of insolvency and the company must have been unable to pay its debts at the time (or became unable to pay its debts as a result of the TUV). The inability to pay debts is presumed if the transaction concerns a connected party.
If successfully challenged, the court will restore the company to the position it would have been had the company not entered into that transaction. For example, it could require property to be returned to the company.
To defend a TUV claim, the respondent must show that the company entered the relevant transaction in good faith and for the purpose of carrying on its business, and there were reasonable grounds for believing that it would benefit the company. For example, making a distressed sale of assets to quickly bring money into a struggling company.
Preferences
The IA sets out the order in which each creditor class gets paid from an insolvent company. Creditors must be treated on a ‘pari passu’ basis, meaning that all creditors in the same class must be treated equally. This is obviously important as there will rarely be sufficient assets in an insolvent company to make all creditors whole.
A preference occurs if a company does anything or suffers anything to be done that puts a creditor or a surety or guarantor in a better position in the insolvency process than they would otherwise have been. For example, repaying a director’s loan in full before other creditors could constitute a preference.
To be challengeable, the preference must have occurred within six months of the onset of insolvency (or within two years where the preference was given to a connected person, such as a director), the company must have been insolvent at the time (or became insolvent because of the preference), and the company must be influenced by a desire to prefer the recipient of the preference (which is presumed in the case of connected creditors).
As with a TUV, if successfully challenged the court will restore the company to the position it would have been had the company had not entered into that transaction. For example, it could require monies to be repaid to the company by the recipient of the preference.
Transactions defrauding creditors
A transaction may be set aside if it was entered with the purpose of putting assets beyond the reach of a creditor or to otherwise prejudice the interests of a creditor.
Importantly unlike a TUV, there is no requirement for the company to be insolvent when the relevant transaction occurs or for it to have any knowledge of any actual or potential creditors at the time. A general intention to protect assets from creditors who might arise in the future is enough. Further, in addition to liquidators and administrators, any victim prejudiced by the transaction can challenge a transaction defrauding creditors (with leave of the court if the company is already in an insolvency process).
For example, if a company were to transfer assets to a connected company without receiving anything in return and then later entered an insolvency process, the court could order those assets to be returned to the original company (even if the transferor was solvent and had no creditors at the time of the transfer).
A court will not make an order when it is satisfied that the transaction was entered into in good faith and for the purposes of carrying on business and there were reasonable grounds for believing that the transaction would benefit the company. A court may also refuse to make an order against a third-party recipient who received a benefit from the transaction in good faith, for value, and without notice of the relevant circumstances.
Extortionate credit transactions
A transaction is extortionate if, having regard to the credit risk accepted by the person providing the credit to the company, its terms require grossly exorbitant payments to be made or otherwise grossly contravened ordinary principles of fair dealing.
The relevant credit transactions must have occurred during the three years before the date the company entered administration or liquidation. There is no need for the company to be insolvent at the time of the relevant transaction. The court will set aside the relevant transaction unless the creditor can show that the terms were reasonable in the circumstances.
If, prior to the onset of insolvency, a company gives a floating charge to one of its creditors for an existing debt without receiving anything in return, then the charge will be voidable. For example, where a company gives a floating charge to a lender to secure a loan already made.
The charge must have been made within two years of the onset of insolvency if granted to a connected party (e.g. a director) and one year for all other parties. In relation to unconnected parties, the charge must have been given at a time when the company was insolvent, or it must cause the company to become insolvent.
Conclusion
When directors start having concerns about a company’s ability to pay its debts (and sometimes earlier) they will need to give careful thought to the transactions they enter into on behalf of the company and whether they may fall foul the above rules. Detailed records should also be kept explaining the decisions taken and, as ever, timely financial and legal advice should be sought. Following the onset of the insolvency process, the abilities of the appointed administrator or liquidator to investigate and set aside such transactions are a powerful tool to preserve the assets of a company.
