Uncommercial Transactions Claims and how to Defeat Them

Uncommercial transactions claims are one of the types of voidable transactions in company insolvency and are outlined at section 588FB of the Corporations Act 2001 (CTH) (“the Corporations Act”).

A transaction of a company is an uncommercial transaction when:

1. There is a transaction of a company; and
2. There is a transaction with another party (or parties); and
3. A reasonable person in the company’s circumstances would not have entered into the transaction having regard to;
4. The benefits and detriments to the company and the other party (or parties).

There are a number of defences and exceptions to uncommercial transactions claims which may mean that a third-party does not have to repay their hard-earned dollars to the liquidator.

In this article our experienced insolvency lawyers explain in detail uncommercial transactions claims under the voidable transaction regime in the Corporations Act and details the possible defences and exceptions to uncommercial transactions claims.

If you have been contacted by a liquidator in relation to uncommercial transactions claims, you should contact an insolvency lawyer as soon as possible to attempt to defend the liquidator’s demand for money

What are Voidable Transactions?

Similar to voidable transactions in bankruptcy, a voidable transaction in company insolvency is a transaction entered into by the company and a third-party which can be avoided and recovered by the liquidator of the company in liquidation.

Voidable transactions can include:

1. 588FA – Unfair preferences;
2. 588FB – Uncommercial transactions;
3. 588FC – Insolvent transactions;
4. 588FD – Unfair loans to a company; and
5. 588FDA – Unreasonable director-related transactions.

Section 588FE of the Corporations Act outlines the criteria for a transaction able to be avoided by the liquidator.

1. There must be an insolvent transaction; and
2. The transaction was made, or an act was done for the purpose of giving effect to it:
   1. During the 6 months ending on the relation-back day; or
   2. It is also an uncommercial transaction – 2 years ending on the relation-back day; or
   3. It is also a related entity of the company – 4 years ending on the relation-back day; or
   4. The company became a party to the transaction for the purpose of defeating, delaying, or interfering with, the rights of any or all of its creditors – 10 years ending on the relation-back day.

Then, each of the voidable transactions have their own specific requirements.

Section 9 of the Corporations Act defines a what transaction is.

Section 91 of the Corporations Act has a table which outlines the date of the relation-back day.

Section 95A of the of the Corporations Act defines what solvent and insolvent mean.

Section 588FC of the Corporations Act defines what an insolvent transaction means.

If you fall into the category outlined above, then this transaction could be a voidable transaction.

This article will focus on uncommercial transaction claims.

What is an Uncommercial Transaction?

Section 588FB of the Corporations Act says:

(1)  A transaction of a company is an uncommercial transaction of the company if, and only if, it may be expected that a reasonable person in the company’s circumstances would not have entered into the transaction, having regard to:

(a)  the benefits (if any) to the company of entering into the transaction; and

(b)  the detriment to the company of entering into the transaction; and

(c)  the respective benefits to other parties to the transaction of entering into it; and

(d)  any other relevant matter.

(2)  A transaction may be an uncommercial transaction of a company because of subsection (1):

(a)  whether or not a creditor of the company is a party to the transaction; and

(b)  even if the transaction is given effect to, or is required to be given effect to, because of an order of an Australian court or a direction by an agency.

So, as outlined above, an uncommercial transaction is:

1. A transaction of a company; and
2. A transaction with another party (or parties); and
3. A reasonable person in the company’s circumstances would not have entered into the transaction; having regard to
4. The benefits and detriments to the company and the other party (or parties).

This raises some further interesting points, namely:

1. What is a transaction of a company; and
2. What does uncommercial mean; and
3. How have the Courts decided the objective test of whether a reasonable person in the company’s circumstances would not have entered into the transaction; and
4. What are the benefits and detriments to the parties to the transaction.

What is a Transaction of a Company?

The Court has distinguished a transaction “of a company” from a transaction “of the company”.

In Kalls Enterprises Pty Ltd (In Liquidation) & Ors v Baloglow & Anor [2007] NSWCA 191 Ipp J agreeing with Giles JA said:

… the question whether a transaction is a transaction of a company depends on the nature and extent of involvement of the company in the transaction. A transaction may be “of” more than one company or party. The mere fact that a company is a party to a contract or contracts that form part of the transaction does not necessarily make the transaction “of” that company. Whether a company is so bound up in the transaction that it is a transaction “of” the company is a question of judgment dependent on fact and degree.

Then Basten JA agreeing with Giles JA went on to say:

A transaction “of” a particular company can be said to involve something more than the concept of a company being “party to” a transaction. It involves a different perspective. A sale may involve three companies, a vendor, a purchaser and a financier. Each is “party to” the transaction, but in order to characterise the transaction for the purposes of Pt 5.7B, one needs to identify “of” which company it is a transaction, so as to assess benefits for, detriments to, insolvency of and winding up of, that company.

Therefore, it may be possible that a transaction of the company may not be a transaction of a company.

This determination will rely on the facts of each particular case.

This distinction may, if successfully argued, could enable a party to the transaction (or transactions) to defeat the liquidator’s claim.

A great discussion on these points can be found in McCann, in the matter of Walton Construction (Qld) Pty Ltd (In Liq) v QHT Investments Pty Ltd [2018] FCA 1986.

What does Uncommercial Mean?

A good starting-point, is that 588FB of the Corporations Act is used to recover undervalued transactions, or transactions where no consideration has been paid.

However, the Courts have found that both undervalued transactions have not been uncommercial, and that payment of full consideration have been uncommercial.

The Explanatory Memorandum for the Corporate Law Reform Bill 1992 (Cth) said that the uncommercial transactions provision was to prevent companies:

disposing of assets or other resources through transactions which resulted in the recipient receiving a gift or obtaining a bargain of such magnitude that it could not be explained by normal commercial practice.

In Liquidators’ Avoidance of Uncommercial Transactions (1996) 70 ALJ 390 Professor Keay said:

While not dealing exclusively with undervalue, undervalue is at the heart of the section, that is, if the company received less than what is reasonable from the transaction the liquidator may attack it.

The elements of an uncommercial transaction have been outlined in case law as essentially:

1. The wording of the legislation – the benefits to the company; and the detriment to the company; and the respective benefits to other parties; and any other relevant matter – are to be determined on an objective basis; and
2. The objective determination must include the actual knowledge of the controller of the debtor company; and
3. The recipient received a gift or obtained a bargain of such magnitude that it could not be explained by normal commercial practice; and/or
4. The consideration lacks commercial quality.

For more on this see Capital Finance Australia Limited v Tolcher [2007] FCAFC 185.

Whether a reasonable person would not have entered into the transaction?

Obviously, section 588FB of the Corporations Act posits an objective test.

A transaction of a company is an uncommercial transaction of the company if, and only if, it may be expected that a reasonable person in the company’s circumstances would not have entered into the transaction.

The Courts have determined that the reasonable assessment is based on:

1. The totality of the company’s circumstances at the time of the transaction; and
2. What knowledge the director or directors of the company ought to have known; and
3. The purpose of the transaction at the time of the transaction; and
4. The business relationship of the parties at the time of the transaction.

In Cussen & Ors v Sultan & Ors [2009] NSWSC 1114 Nicholas J said:

… the court will look at the totality of the business relationship between the parties, and to what the parties under their relationship intended to effect, and how their intention was effected, in part or in whole, by the impugned transaction.

So, with this objective approach, the section also requires consideration of the benefits and detriments to the parties to the transaction.

What are the benefits and detriments to the parties to the transaction?

The main consideration in 588FB of the Corporations Act is the benefits and detriments of the company and the benefits for other parties to the uncommercial transaction.

What is a Benefit?

For an uncommercial transaction, section 9 of the Corporations Act says:

“benefit” means any benefit, whether by way of payment of cash or otherwise.

The dictionary defines benefit to mean:

an advantage or profit gained from something; or receive an advantage or profit; or bring advantage to.

So following the definitions above, a benefit pursuant to 588FB of the Corporations Act will be an advantage or profit whether by way of payment of cash or otherwise.

What is a Detriment?

Unlike benefit, detriment is not defined in the Corporations Act.

The dictionary defines detriment to mean:

the state of being harmed or damaged; or a cause of harm or damage.

So, a detriment pursuant to 588FB of the Corporations Act will be commercial harm or damage, or harm or damage that can be assessed on a commercial basis.

Does the Liquidator have an uncommercial transaction claim?

If the elements above are reasonably arguable by a liquidator, then the liquidator may have an uncommercial transaction claim against the other party or parties.

If so, then the transaction must have occurred within strict timeframes.

Timeframes for Uncommercial Transactions Claims

The timeframes for uncommercial transactions are:

1. Two (2) years – for an uncommercial transaction claim; or
2. Four (4) years – if the uncommercial transaction included a related party; or
3. Ten (10) years – if it was made defeat, delay, or interfere with, the rights of creditors.

The transaction is an uncommercial transaction of the company and it was entered into, or an act was done for the purpose of giving effect to it, during the 2 years ending on the relation-back day.

Alternatively, if the other party is also a related entity of the company, then the insolvent uncommercial transaction was entered into, or an act was done for the purpose of giving effect to it during the 4 years ending on the relation-back day.

Lastly, if the company became a party to the transaction for the purpose of defeating, delaying, or interfering with, the rights of any or all of its creditors then the insolvent transaction was entered into, or an act was done for the purpose of giving effect to it during the 10 years ending on the relation-back day.

These timeframes raise some interesting questions, namely:

1. What is the relation-back day?
2. What is a related entity?

What is the Relation Back Day?

Section 91 of the Corporations Act includes a table which says the relation-back day is either:

1. The date of the filing of the winding up application; or
2. The date the company resolves that it be wound up voluntarily; or
3. The date that the deed of company arrangement was executed.

Most commonly, the date of the winding up application.

What is a Related Entity in uncommercial Transactions Claims?

A related entity is defined at section 9 of the Corporations Act and includes (but not limited to):

1. A body corporate that is related to the first-mentioned body; and/or
2. A director or member of the body or of a related body corporate; and/or
3. A relative of a spouse of such a director or member; and/or
4. A relative of such a director or member.

Examples of an Uncommercial Transactions Claim in Liquidation

Some examples of uncommercial transaction claims in liquidation include claims for:

1. The transfer of property of an insolvent company, for undervalued consideration or no consideration, to a related party of the insolvent company; and/or
2. Payments made by a company to a related entity satisfying the related entities liabilities;
3. The forgiveness of debts by a company for no commercial reason; and/or
4. Extravagant upfront payments for services provided by another party being of such a magnitude rendering payments inexplicable in normal commercial practice; and/or
5. The granting of security thereby turning an unsecured loan into a secured loan with no further consideration or commercial advantage; and/or
6. The undervalue transfer of shares of a corporate trustee limiting the trustees right of indemnity against trust assets.

The liquidator’s job is to realise as many assets, and recover as much money, as it can to pay company creditors.

This is understandable from an unpaid creditor’s perspective.

However, if you are the party (or the director of the party) to which the uncommercial transaction claim is directed then it may not seem very fair at all.

However, there are a number of defences and exceptions to uncommercial transaction claims.

Defences to Uncommercial Transactions Claims

There are defences to uncommercial transaction claims.  They include:

1. The person received no benefit because of the transaction; or
2. The party entered into the transaction in good faith; and
3. At the time of entering into the transaction a reasonable creditor did not know, or ought not to suspect that the company was insolvent.

Section 588FG of the Corporations Act prescribes transaction which are not voidable as against certain persons.

If the claim is made against a person other than a party to the transaction, then it is a defence under 588FG(1) if:

1. The person received no benefit because of the transaction; or
2. If there was a benefit the person received the benefit in good faith; and
3. At the time when the person received the benefit the person had no reasonable grounds for suspecting that the company was insolvent at that time or would become insolvent; and
4. A reasonable person in the person’s circumstances would have had no such grounds for so suspecting.

If the claim is made against a creditor if the transaction is not an unfair loan to the company, or an unreasonable director-related transaction of the company, then it is a defence under 588FG(2) if:

1. The person became a party to the transaction in good faith; and
2. At the time when the person became such a party the person had no reasonable grounds for suspecting that the company was insolvent at that time or would become insolvent; and
3. A reasonable person in the person’s circumstances would have had no such grounds for so suspecting; and
4. The person has provided valuable consideration under the transaction or has changed his, her or its position in reliance on the transaction.

Probably the most important of the above is proving that a creditor did not know, or ought to have known, that the company in liquidation was insolvent at the time of the transaction.

However, as well as the defences 588FG of the Corporations Act, the liquidator must ensure that the elements of the uncommercial transaction are made out.

Elements of an Uncommercial Transactions

As outlined above, for a claim to be an uncommercial transaction claim, the liquidator must prove the elements of the uncommercial transaction.  These include:

1. There is a transaction of a company; and
2. There is a transaction with another party (or parties); and
3. A reasonable person in the company’s circumstances would not have entered into the transaction having regard to;
4. The benefits and detriments to the company and the other party (or parties).

If we can sufficiently argue that one or more of these elements cannot be made out, then the liquidator’s claim should fail.

For example, we can attempt to argue that:

1. There was no transaction as defined by the act; and/or
2. The transaction was not a transaction of a company; and/or
3. You were not a party to the transaction; and/or
4. It is reasonable that the company would have entered into the transaction; and/or
5. The balance of benefits and detriments to the company and the other party (or parties) swings in favour of the person whom the claim is made.

If you have been contacted by a liquidator in relation to uncommercial transactions claims, you should contact an insolvency lawyer as soon as possible to attempt to defend the liquidator’s demand for money