28 May Preference claims in Insolvency Law
Preference claims in Insolvency Law for insolvency professionals
Our insolvency and restructuring legal expert, Chris Hook answers questions about preference claims in insolvency law for insolvency professionals.
What is a preference claim?
This is a claim brought by a liquidator or administrator (office-holder) against a creditor (which for the purposes of this article shall include a surety or guarantor for any of the company’s debts or other liabilities), who has been preferred or favoured by the company over the other creditors (e.g. they receive payment of more of the debt owed to them than the other creditors do). The statutory basis for the claim is at section 239 of the Insolvency Act 1986 (the “Act”).
What is the rationale behind preference claims?
By making a preference claim, an office-holder can challenge such transactions to restore the position to what it would otherwise have been. This ensures the insolvent company’s assets are distributed in the correct order and all creditors are treated fairly.
What are the elements of preference claims?
In order to succeed on a preference claim, there are a number of key elements an office-holder must establish:
- There must have been a preference granted
A preference occurs when a company does anything as regards a creditor that results in that creditor being put in a better position than they would otherwise have been on the company’s insolvent liquidation. Essentially, they treat them more favourably than they should to the detriment of the company’s other creditors.
- There must have been a desire to prefer
It must be established that the company (acting by its director(s)) was influenced when granting the preference (or suffering it to take place) by a desire, or a wish to prefer that creditor. Without establishing a desire to prefer the creditor in question, no preference can be deemed to have been given.
An office-holder will examine the facts closely to determine whether such a desire to prefer was present at the time. If, however, a transaction was entered into with a connected party (see below), then a desire to prefer is automatically presumed. It will then be for the creditor to rebut that presumption.
- The preference must have been made within the ‘relevant time’
In order for an office-holder to challenge a preference , it must have been given to the creditor within the ‘relevant time’, as defined in section 240 of the Act.
For a transaction entered into with a non-connected party, the office-holder is allowed to look back over a period of six months before the date of administration or liquidation.
For a transaction entered into with a connected party, however, the relevant time is extended to a period of two years pre-dating the date of administration or liquidation.
For the preference to be deemed to have been given within the ‘relevant time’, not only would it need to have been given within the aforementioned time periods, but the company must also have been unable to pay its debts as they fell due at that time, or have become unable to as a result of the preference (i.e. insolvent).
What does connected party mean?
The definition of a person connected with the company can be found at section 249 of the Act and includes the following:
- A director or shadow/de facto director of the company or an associate of theirs.
- An associate of the company.
The term associate is defined broadly and encompasses a wide range of individual relationships, and relationships with entities. The full list of associates is outside the scope of this article and readers should instead refer to the definition at section 435 of the Act.
Whether a preference has been given to a connected party is not just significant because it shifts the burden onto the creditor to show that no desire to prefer was present, but also because it extends the relevant time in which the transaction must have been entered into.
What defences exist against preference claims?
Notwithstanding that preference claims exist to ensure equity among unsecured creditors in the event of a company’s insolvency, certain defences do exist and are available in some circumstances.
Some potential defences could include:
- The absence of a desire to prefer.
- The preference was given outside of the ‘relevant time’.
- The company was not insolvent at the time the preference was given, nor did it become so as a result of it.
- The preference was given to someone who was not a creditor of the company. However, it might be a transaction at undervalue instead (section 238 of the Act).
- The creditor has not, as a result of the preference given, been put in a better position than they would otherwise have been on the company’s insolvent liquidation.
Who can bring a claim, and what orders can the court make?
An office-holder can bring a preference claim against a creditor if they believe that all the elements of proving a preference can be satisfied.
The court has wide-ranging powers if it accepts that a preference was given to a creditor. A non-exhaustive list of orders the court can make when a preference is given is set out at section 241 of the Act. These are all aimed at restoring the position to what it would have been if the company had not given the preference (section 239(3) of the Act). For example, if the preference were the transfer of property, then the court can require the creditor who received it to transfer it back to the company.
An order restoring the position may also affect the property of, or impose any obligation on, a third party who was not the person to whom the preference was given. However, bona fide third parties who have given value are afforded protection by section 241(2) of the Act, which states that such an order:
“(a) shall not prejudice any interest in property which was acquired from a person other than the company and was acquired in good faith and for value, or prejudice any interest deriving from such an interest, and
(b) shall not require a person who received a benefit from the transaction or preference in good faith and for value to pay a sum to the office-holder, except where that person was a party to the transaction or the payment is to be in respect of a preference given to that person at a time when he was a creditor of the company.”
Are you seeking legal advice in respect of a preference claim?
If you are an insolvency practitioner and you believe that a preference has been given to a creditor, or perhaps you are a creditor of an insolvent company and have had a preference claim made against you, then our expert insolvency solicitors can help you navigate the complex area of preference claims in corporate insolvency.
Contact us for legal advice.
- Email info@hrjforemanlaws.co.uk
- Call Hitchin 01462 458711, Welwyn Garden City, 01707 887700, Old Harlow 01279 709100
- Complete our contact form here
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