Voidable transactions explained

This article expands on the news story we featured last month. While the Supreme Court’s recent decision provides better protection for builders, there are some key things you need to understand about voidable transactions to avoid being caught out  

For those readers who have been involved in the construction industry for some time, you will know that there are periods of boom and bust.

During boom times, it’s a great industry to be in – lots of work and improving margins to be made. In downturns, however, there are always those who aren’t prepared and, as a result, suffer the consequences. The history of the construction industry is littered with examples, Mainzeal being one of the most notable recent cases.

Despite the obvious impact of when a construction company collapses, salt is often inadvertently rubbed into the wounds of creditors and suppliers when liquidators require repayment of money they had already received under New Zealand’s “voidable transactions” regime.

As some of you may be aware, a recent Supreme Court decision on the regime was a welcome clarification to those in the building industry when facing a claim by a liquidator requiring money to be returned.

How it works

Most people know that when times get tough, difficult decisions often need to be made about who to pay and in what order. Although not a preferred business practice, robbing Peter to pay Paul can be common. Often it’s the creditors or suppliers most important to the business, or making the most noise, who are paid first.

Fair enough, if you happen to be the one who has been chasing the outstanding account and received payment. If you’re one of the other creditors who supplied goods or services in good faith but have missed being paid, it’s not so good.

In an attempt to balance this perceived unfairness, the concept of a “voidable transaction” was introduced – as set out in the Companies Act 1993.

The basic premise of the concept is: if you receive money from a company within two years of it going into liquidation, and the amount was more than you would have otherwise received from its liquidation, the transaction may be set aside.

This means the liquidator may require you to repay any money received and, instead, share equally in any distribution made to creditors. In reality, creditors in a liquidation often receive nothing at all, or only very small payments (representing a fraction of the original debt owing to the creditor).

However, like any good rule, there are exceptions. Most notably, if you are faced with a voidable transaction claim, you can still potentially hold onto the money you have received and refuse to pay this to a liquidator if:

• You had acted in good faith;
• There were no reasonable grounds to suspect the company was, or would become, insolvent at the time of payment; and
• You gave value for the payment or altered your position in a reasonably held belief that payment was validly made and wouldn’t be set aside.

Whether you satisfy the first two criteria set out above is always a question of fact and may depend on the circumstances. A creditor will have a good argument that these criteria are met if the payment was received in the ordinary course of business.

An influential decision

However, the recent Supreme Court case in Allied Concrete Ltd v Meltzer specifically dealt with the third bullet point in determining whether a creditor “gave value” for the payment being received and its timing.

The key issue in the case was whether a creditor or supplier was required to have had exchanged something extra of value at the time the payment was received, or whether the provision of the original goods or services was sufficient to satisfy this limb.

 

“Suppliers or creditors who received a payment knowing or suspecting that the company in question was or may become insolvent are still caught by the voidable transactions regime

 

The Supreme Court clarified that value may be given at the time the underlying debt is created (ie, when the original goods or services were provided) – meaning that creditors should be able to satisfy the third limb of the test in every case, and stand a better chance of retaining any payment received.

It’s expected that the Supreme Court ruling will result in fewer cases of liquidators chasing creditors for repayments. It should be noted, however, that suppliers or creditors who received a payment knowing or suspecting that the company in question was, or may become, insolvent are still caught by the voidable transactions regime.

In these circumstances, the liquidator may still require repayment of amounts received under the voidable transaction provisions.

Ultimately, there is no substitute for having good account management and debt-collection processes in place while actively managing any debtors. If necessary, suitable security should always be obtained to ensure prompt payment of accounts receivable.

 

More information

If you have any questions about this article or want to discuss it further, please contact Andrew Tetzlaff at andrew.tetzlaff@simpsongrierson.com. Andrew specialises in commercial law and provides pragmatic, practical legal advice to businesses.

The advice in this article is intended as a general guide only and is not intended to be legal advice. Detailed legal advice should be obtained to cover a specific situation.