‘That’s just wrong! Why do I have to give my money back?’

You’ve sold whatever it is you sell.  You’ve been paid – maybe a bit late, maybe even very late, maybe not all at once, and maybe not all that you were owed, but … so what?  That’s not that uncommon these days.

Then, out of the blue, because sometimes the first you know that the company has gone belly-up, is by receiving a letter from a liquidator asking you to give the money back because of an ‘unfair preference’; and by the way, you won’t get your goods and services back either.

This might just be the single most infuriating aspect of the law that a business owner can encounter.

So what exactly is an ‘unfair preference claim’?

Here’s the legal stuff:

If a company goes into liquidation, a liquidator is appointed and one of their primary tasks is to identify whether, in the six-months before the start of liquidation, any creditors of the company have been paid some or all of their debt when others haven’t.

If you received a payment(s) from the company that has since gone into liquidation, it is likely that it will be considered to be an ‘unfair preference’ by the liquidator because you have received an advantage over other creditors of the company who have not received payment from the company.

The liquidator can compel you to repay the money that you were paid.

Is there anything you can do?

Both you and the liquidator have a mutual interest in avoiding hefty expenses that can come with legal proceedings.  This provides an opportunity to negotiate a payment of less than the total amount claimed.

One of the best strategies is to secure insurance against bad debtors and ensure it covers you for unfair preference claims from a liquidator.  This won’t stop you needing to negotiate the best deal with the liquidator but can cover the repayment amount.

The important questions to consider when seeking to minimise the damage, include:

  1. Is there an ‘unsecured debt’? A payment can only be an unfair preference if it is made in respect of an ‘unsecured debt’.  Having the ability to secure future payments by a charge over the company’s assets can provide full protection from an unfair preference claim.
  1. Was the company solvent at the time of payment? If the claim goes to court the liquidator will need to prove that the company was insolvent.  If you were paid more than six months before that date of insolvency, the liquidator can’t claim it.
  1. Do one of the allowable defences apply? The defences include:
  • whether you have an entitlement to set-off any outstanding debts you are owed by the company against any claimed unfair preference payments that you are required to re-pay; and
  • that you (or someone in your position) would not have suspected the company was in trouble.

The problem for this last point is that the courts have ruled that chasing a late payer or having difficulty securing payment can be enough to show you should have suspected the company was in trouble.

Sure, businesses fail; you know that.  But are you really going to stop doing business with a client just because they are a late payer or seem to have cash flow problems?  Probably not, so if the worst case happens, be prepared for a potential preference claim.

If this has recently happened to you or you have any questions, please get in touch and we can help.

Written by Scott Hunt and Michael Bett.