Legal advice for transactions at undervalue.

25 Jul How to deal with a Transaction at Undervalue

Posted at 00:00h in Insolvency by

In this article, we explain what a transaction at undervalue is and how you can deal with one.  We explore the elements of an undervalue transaction claim and the defences available. This information will be useful to both insolvency practitioners looking to bring undervalue claims and those faced with defending them.

What is a transaction at undervalue?

A transaction at undervalue comes in two forms. The first form is where there is a gift by the company or a transaction where it receives no consideration. This falls under section 238(4)(a) Insolvency Act 1986 (IA). For example, transferring assets for no value or providing a service without charge.

The second form under section 238(4)(b) IA is where there is a transaction which involves consideration that is significantly less in value than the consideration provided by the company.  This could include selling a property for less than its market value.

Transactions at undervalue apply to companies who have entered administration or liquidation, where the transaction has been entered into at the ‘relevant time’ (this is explained further in this article). The statutory basis for transactions at undervalue comes from section 238 IA.

Purpose

An application is made to the court by a liquidator or administrator (office holder). They can also assign a claim to a third party, such as a creditor or litigation funder. A claim can be brought against anyone who is a recipient of the undervalue transaction, including directors of the company. In certain circumstances, a court order in relation to an undervalue transaction can also affect the property of or impose an obligation on a third party who was not the person to whom the undervalue transaction was entered into with (section 241(2) IA).

The purpose of claiming a transaction at undervalue is essentially to restore the position to what it would have been if the company had not entered into that transaction. Thus, increasing the assets in the insolvent estate to be distributed to the company’s creditors.

What are the conditions

There are a number of elements that need to be satisfied for the court to make an order.

  1. The office holder will need to identify the transaction in question and establish it was at an undervalue.

This can be shown by a witness statement or points of claim. The definition of a transaction is wide and can include non-contractual agreements under section 436 IA.

For gifts (section 238(4)(a) IA), it is unnecessary to value the extent of the undervalue. It is automatically undervalue as no consideration has been provided to the company for it. If the claim falls within the second category under section 238(4)(b) IA, what is meant by the consideration received being “significantly less” than the value of the consideration provided by the company will depend on the circumstances of the case/transaction. It is for the office holder to establish the value (and deficiency) of the consideration provided to the insolvent company.

  1. The transaction at undervalue must have occurred within the “relevant time”, as defined by s240 IA 1986.

This has two distinct aspects:

a) The transaction at undervalue must have occurred either:

  • In the period of two years ending with the onset of insolvency;
  • Between the making of the administration application and the making of the administration order on that application; or
  • Between filing a notice of intention to appoint an administrator and the making of the appointment.

The onset of insolvency is either:

i) in the case of administration, the following (as applicable):

  • the date the administration application is made;
  • the date on which the notice of intention to appoint an administrator is filed at court; or
  • the date on which the appointment of the administrator(s) otherwise takes effect.

ii) in the case of liquidation, the following (as applicable):

  • if the company moves from administration to liquidation, the dates mentioned at (i) above in relation to the onset of insolvency in the preceding administration; or
  • in any other case, the date of the commencement of the winding up.

b) Additionally, the company must be insolvent at the time of the transaction or, become insolvent as a result of the transaction. This is defined in section 123 IA as the inability of the company to pay its debts and a list of circumstances in which a company is deemed unable to do so is set out in that section.

If the transaction was entered into with connected persons, there is a presumption that the company was unable to pay its debts at the time of the transaction. The respondent will need to prove this was not the case.

For the purposes of section 249 IA, connected persons include directors (including shadow directors) and associates of those directors or the company. The word “associate” has the meaning given by section 435 IA. The list of persons falling within this definition is extensive and outside the scope of this article. Readers are directed to the wording of the section itself for a full list, but it includes relatives, spouses, business partners etc.

Defences

There are some defences that can be relied on by the respondent to an undervalue claim.

The court will not make an order if, under s238(5) IA, it is satisfied that:

  • The company entered into the transaction in good faith: this is a subjective test and will look at the state of mind of the director(s);
  • It was for the purpose of carrying on the business; and
  • There were reasonable grounds for believing that it would benefit the company: this is an objective test and will look at whether grounds existed at the time of the transaction for having this belief.

There are also defences available to third parties who (whether party to the transaction or not) an order may otherwise be made against. Under section 241(2) IA, the court cannot make an order against such a third party that:

  • Prejudices any interest in property acquired from a person other than the company in good faith and for value; or
  • Requires a person who received a benefit from the transaction in good faith and for value to a pay a sum of money to the office holder.

There is a rebuttable presumption against the third party under section 241(2A) IA that they did not act in good faith where:

  • They had notice of the relevant circumstances (that this was a transaction at undervalue) and the relevant proceedings (the administration or liquidation); or
  • They were connected with or an associate of the company or the other party to the transaction.

Ramifications

The court has wide discretion if the above conditions are satisfied. Section 238(3) IA provides that the court shall make such order as it thinks fit for restoring the position to what it would have been if the company had not entered into the transaction.

This power is restitutionary, allowing the court to set aside the transaction and order the return of any property transferred, and benefits obtained. In some cases, this may no longer be possible. Therefore, the court can make an order requiring a person to pay money representing the value of any property or benefits they received. The money ordered will go back into the company for the benefit of its creditors.

Section 241 IA contains a non-exhaustive list of orders the court can make. Rather than setting them out here, readers are directed to the wording of that section for a full list.

Are you seeking legal advice in relation to transactions at undervalue?

If you are an insolvency practitioner looking to bring an undervalue claim, or you are being pursued by an office holder in relation to such a transaction, our expert insolvency solicitors can help you navigate this technical area to achieve the best possible outcome.

  • Email info@hrjforemanlaws.co.uk
  • Call Hitchin 01462 458711, Welwyn Garden City, 01707 887700, Old Harlow 01279 709100
  • Complete our contact form here

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