It's an unfortunate situation that those who provide a product or service often find themselves in. They’ve done the work, provided a product, invoiced for the work or product and are therefore entitled to be paid. It can therefore be quite a shock to receive a letter from a liquidator demanding back payment of the money due to an unfair preference.
Madgwicks is pleased to be presenting our eight-part series on unfair preferences as we delve into the practical realities of dealing with an unfair preference. You can find the other articles in this series here.
When a liquidator brings a claim for an unfair preference against a company or individual, there are a number of defences available to them. In our earlier article we discussed the commonly used good faith defence. Another commonly used defence is the running account defence.
What is the running account defence?
Where a transaction is:
- for a commercial purpose; and
- an integral part of a continuing business relationship (such as a running account between a creditor and the company now in liquidation)
it may be treated as one transaction and a partial or full defence to an unfair preference.
What is a continuous relationship?
A continuous business relationship between the parties will cease to exist if:
- a creditor makes a demand for payment of outstanding debt where the predominant intention of the parties is to repay old debt rather than to entice the provision of continuing services; and
- there is a cessation of services or supply of goods by the creditor to the company.
Note: The continuing provision of a small quantity of services relative to the debt (after the cessation of supply of goods) that was repaid will not negate a finding of a break in the continuing business relationship.
Is it a full defence?
If the company in liquidation remained at the same indebtedness during the period when the payments were made, then it is likely to be a full defence.
In most cases, however, in the last six months prior to liquidation, there are changes in the level of indebtedness by the company (now in liquidation) to the creditor. If this is the case, then:
- the peak indebtedness (ie the highest amount owed by the company) during the six month relation back period is compared against;
- the amount owed by the company when it went into liquidation.
The difference is the amount which the liquidator can attack as an unfair preference.
Lessons
When you are faced with an unfair preference claim it is always worthwhile considering whether a running account defence applies. If it does, it may significantly reduce the amount of the unfair preference payment.
