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Focus: When unfair preference must be repaid due to suspicion of insolvency

24 June 2011

In brief: The Victorian Supreme Court recently confirmed that a debtor's failure to pay its debts on time is, of itself, not a reasonable ground for a creditor to suspect the debtor's insolvency. Partner Michael Quinlan (view CV) and Law Graduate Fiona Chung report.

How does it affect you?

  • This decision1 provides guidance to creditors who are pursued by a liquidator for unfair preferences and who seek to establish the defence under section 588FG(2)(b) of the Corporations Act 2001 (Cth) (the Act) that they did not suspect, and had no reasonable grounds to suspect, the debtor's insolvency.
  • The mere fact of non-payment may not be sufficient to establish that a creditor suspected, or had reasonable grounds to suspect, the debtor's insolvency. However, the court will consider the cumulative effect of the evidence in assessing whether the 'suspicion' exists.

Background

Between February and March 2008, Metcalf Crane Services Pty Ltd (Metcalf) provided crane hire services to Consolidated Construction Group (Victoria) Pty Ltd (CCGV) at a construction site. Metcalf invoiced CCGV for $55,250 for the work it had done. CCGV subsequently requested Metcalf provide further cranage services. Metcalf refused, on the basis it had not been paid for the work it had done to date. CCGV representatives told Metcalf that it had been paid by the principal for the work, and that Metcalf would be paid soon.

Metcalf retained a solicitor in April 2008 and sent a letter of demand to CCGV. In response to this, CCGV proposed to pay the outstanding sum by instalments. Metcalf rejected this proposal, and issued proceedings against CCGV and its directors (in their capacity as guarantors) to claim payment of the outstanding debt. Metcalf and CCGV's directors subsequently reached a settlement at a pre-hearing conference. CCGV's directors agreed to pay $62,000 in full satisfaction of the claim, interest and costs. CCGV paid the settlement sum to Metcalf in September 2008.

Meanwhile, CCGV was ordered to be wound up. The liquidator argued that CCGV's payment of $62,000 to Metcalf was a voidable transaction under section 588FE of the Act, as it gave Metcalf an unfair preference over the company's other creditors. The liquidator brought proceedings to recover the sum and succeeded at first instance.

Metcalf filed a notice of appeal and sought an order that the complaint be dismissed. It alleged that the magistrate erred in not considering that Metcalf's directors, and a reasonable person in its circumstances, had no reasonable grounds for suspecting that the CCGV was insolvent at the relevant time (s588FG(2)(b)).

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The decision

Justice Robson dismissed the appeal with costs, and held that it was reasonably open for the magistrate to conclude that Metcalf had not proved that it, and a reasonable person in the same circumstances, had no reasonable grounds for suspecting that CCGV was insolvent. Under s588FG(2), Metcalf bore the onus of establishing the statutory defence.

After noting that solvent traders do not always pay debts on time, his Honour acknowledged that a mere failure by the debtor to pay its debts on time does not, of itself, constitute reasonable grounds for the creditor to suspect the debtor's insolvency. Rather, the court must consider the evidence as a whole and determine whether its cumulative impact provides a creditor, or a reasonable person in his or her position, with reasonable grounds to suspect the debtor's insolvency.

On the facts of this case, his Honour considered that it must have appeared odd to Metcalf that CCGV would not make a payment when it wanted Metcalf to do further necessary work on the site and it had been paid by the principal for the work that Metcalf had done. Furthermore, Metcalf conceded that it believed it was not going to receive payment any time soon when it retained a solicitor in April 2008 and sent a letter of demand. Against this background, the fact that CCGV repeatedly resisted paying Metcalf was capable of supporting an inference that CCGV was unable to pay its debts as they fell due. The inference was open that CCGV had gone to the expense of retaining a solicitor in order to avoid paying the moneys it owed to Metcalf. Therefore, it was reasonably open on the evidence for the magistrate to conclude that Metcalf had not proved both elements of the statutory defence under s588FG(2)(b).

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Conclusion

This case gives guidance to creditors who are pursued by a liquidator for unfair preferences and wish to establish the defence under s588FG(2)(b) that they did not suspect, and had no reasonable grounds to suspect, the debtor's insolvency. While the mere fact of non-payment may not be enough to give rise to the 'suspicion', the court will consider the evidence's cumulative effect in assessing the defence.

Footnotes
  1. Metcalf Crane Services Pty Ltd v Rathner [2011] VSC 195.

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