Voidable transactions due to insolvency - unfair loans

Date: Jun 04, 2014
Document Type: Article

When a company becomes insolvent, the liquidator is entitled to all of the assets that belonged to the company at the commencement of the winding up, so they can manage and distribute that property equally amongst the company’s creditors.

It can be difficult to determine when a winding up commences and the way in which this date is calculated is beyond the scope of this article.

 It is not uncommon for a company to make certain transactions or otherwise attempt to dispose of property in light of impending insolvency proceedings, leaving little for the liquidator to distribute. To combat this, the liquidator is given wide ranging powers to ‘claw back’ disgorged property for the benefit of all the company’s creditors.

Transactions can be avoided on the basis they are an:

  • Unfair loan
  • Unfair preference
  • Uncommercial transaction
  • Unreasonable director related transaction
  • Transfer to defeat creditors

This article addresses what constitutes an unfair loan. Other articles on this website will address the other avoidance provisions.

What is an unfair loan?

An unfair loan occurs when the company enters into a loan agreement in which the interest or charges in relation to the loan are extortionate or have become extortionate as a result of a variation. There liquidator is not required to prove the loan was unfair in any other way besides the extortionate nature of the interest or charges.

A loan will still constitute an unfair loan even if the interest or charges have since ceased to be extortionate.

There is no limitation period within which the unfair loan must have occurred. Therefore, the liquidator can void any unfair loan which occurred on or before the day the winding up began.

When are interest or charges extortionate?

There is no definition of or indication of a threshold by which the interest and charges will be regarded as ‘extortionate’.

In determining whether the interest or charges are extortionate regard is had to the following factors at the time of entering into the loan:

  • the risk to which the lender was exposed;
  • the value of any security in respect of the loan;
  • the term of the loan;
  • the schedule of payments of interest and charges and for repayments of principal;
  • the amount of the loan; and
  • any other relevant matter.

It is generally accepted that to be voidable, the loan must have been made under such unusual terms that it will be considered grossly unfair.

What can I do if I am accused of receiving an unfair loan?

If you are alleged to have received an unfair loan, you might be excused from liability to repay it if you can establish that you received no benefit from the transaction, or if you did receive a benefit you did so in good faith and there were no reasonable grounds to suspect insolvency. There are also time limits determining when a liquidator can commence recovery action.

The law is complicated in this area. If you require assistance regarding unfair loans please contact us.

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