If you are a supplier to a business, it is essential you understand what occurs if your client’s business goes into liquidation or insolvency and how it can affect your business.
When a company becomes insolvent, the director’s focus needs to shift from the interests of the company to the interest of the company’s creditors.
Unsecured creditors are all ranked equally under the Corporations Act 2001.
Therefore when a company becomes insolvent, the company should be paying all unsecured creditors equally.
In practice, some companies pay certain unsecured creditors ahead of other unsecured creditors in the 6 month period preceding the appointment of an insolvency administrator..
As a result, the unsecured creditors who received their payments first, received an advantage over the other unsecured creditors who received nothing.
It is deemed by Section 558FA of the Corporations Act 2001 (“the Act”) that the unsecured creditors which received these payments, receivedan unfair preference payment.
A Liquidator seeks to recover the preference payments and utilise the funds to declare an equal dividend to all unsecured creditors.
In this regard, where a voidable transaction is identified, the Liquidators have an obligation to seek the recovery of such a transaction, where it is commercial to do so. Section 588FA of the Corporations Act 2001 (“the Act”) provides for the recovery of unfair preferences.
To constitute an unfair preference, the transaction must have the effect of conferring an advantage to one creditor over other creditors of the company.
In addition, the Act allows the Liquidators to challenge certain transactions entered into by a company during the six month period preceding the relation back day.
Section 588FC of the Act defines an insolvent transaction as a transaction which is an unfair preference which occurs at a time in which the company is insolvent, or causes the company to become insolvent as a result of entering such a transaction.
Section 588FE of the Act deems that certain transactions entered into by the company, when it was insolvent, may be overturned by the Liquidators and the proceeds recovered for the benefit of creditors.
The following examples are a calendar representation of these rules, enabling you to see more clearly the time periods involved.
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