TGIF 28 August 2020 – Not ‘from the company’: Liquidators fail to claw back third party payment

This week’s TGIF considers the decision in Cant v Mad Brothers Earthmoving Pty Ltd [2020] VSCA 198, where the Court of Appeal refused to find that a payment made by a third party on behalf of an insolvent company was an unfair preference.

Key takeaways

• To be an unfair preference, a payment from a third party to a creditor must come from money or assets to which the insolvent company is entitled.
  
  
• Moreover, it must have the effect of diminishing the assets of the company available to creditors.
  
  
• If the company directs the third party to make the payment, or authorises or ratifies it, that does not necessarily make the payment ‘from the company’.  

What happened?

Mad Brothers was an unsecured creditor of Eliana, the company in liquidation.

Mad Brothers and Eliana executed a settlement agreement pursuant to which Eliana agreed to pay Mad Brothers $220,000 in full and final settlement of winding up proceedings commenced by Mad Brothers.

The payment of $220,000 was made to Mad Brothers by a related company of Eliana, Rock Development Investments Pty Ltd (Rock).   Rock made payment from a loan facility it had with a financier, secured against Rock’s own property.

At the time of payment, both Eliana and Rock shared the same sole director.

The decision  

In order for a transaction to be an unfair preference, the creditor must receive a benefit ‘from the company’ in liquidation. Accordingly, the critical issue on appeal was whether the payment of $220,000 was ‘from’ Eliana.

The Court held that:

• The fact that a company directs a third party to pay a creditor, or authorises or ratifies such a payment, does not necessarily mean that the payment is received ‘from the company’.
  
  
• Rather, for payment to be received ‘from the company’, it must:
  
  
  • be received from the company’s own money, meaning money or assets to which the company is entitled; and
    
    
  • have the effect of diminishing the assets of the company that are available to creditors.
    
    
• On the other hand, a payment to a creditor by a third party which does not have the effect of diminishing the assets of the company is not a payment received ‘from the company’ and is therefore not an unfair preference.

In this case, the Court noted that Rock was not a debtor of Eliana. If it had been, then the payment made by Rock would have reduced its debt to Eliana and gave Mad Brothers the benefit of money to which Eliana was entitled. It would therefore have amounted to a payment from Eliana.

However, in the circumstances, the payment by Rock was not from money or assets to which Eliana was entitled. It did not diminish Eliana’s assets. Accordingly, the Court of Appeal held that the payment was not an unfair preference.

Comment

For insolvency practitioners and creditors, this decision clarifies an area of uncertainty in relation to third party payments and the operation of the unfair preference regime.  

The Court has clearly stated that the issue is whether the payment diminished assets of the company in liquidation available to creditors, rather than, for example, the relationship with the third party or whether the company directed or authorised the payment.

Whether the payment diminished the assets of the company will require careful consideration; for example, the existence of a debt or other liability owed by the third party may be enough to make the payment ‘from the company’.