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An undervalue transaction is a transaction entered into by a
company A company, abbreviated as co., is a legal entity representing an association of people, whether natural, legal or a mixture of both, with a specific objective. Company members share a common purpose and unite to achieve specific, declared go ...
who subsequently goes into
bankruptcy Bankruptcy is a legal process through which people or other entities who cannot repay debts to creditors may seek relief from some or all of their debts. In most jurisdictions, bankruptcy is imposed by a court order, often initiated by the debto ...
which the court orders be set aside, usually upon the application of a liquidator for the benefit of the debtor's
creditors A creditor or lender is a party (e.g., person, organization, company, or government) that has a claim on the services of a second party. It is a person or institution to whom money is owed. The first party, in general, has provided some property ...
. This can occur where the transaction was seriously disadvantageous to the company and the company was
insolvent In accounting, insolvency is the state of being unable to pay the debts, by a person or company (debtor), at maturity; those in a state of insolvency are said to be ''insolvent''. There are two forms: cash-flow insolvency and balance-sheet ins ...
or in immediate risk of becoming insolvent.


Overview

Under ordinary principles of
contract law A contract is a legally enforceable agreement between two or more parties that creates, defines, and governs mutual rights and obligations between them. A contract typically involves the transfer of goods, services, money, or a promise to tran ...
, the courts will not generally look into the adequacy of the
consideration Consideration is a concept of English common law and is a necessity for simple contracts but not for special contracts (contracts by deed). The concept has been adopted by other common law jurisdictions. The court in '' Currie v Misa'' declare ...
provided by either side. However, if a company is in real peril of going bankrupt, many legal systems provide for a mechanism which allows these transactions to be unwound, so as to prevent prejudice to the creditors of the company. Normally, for a transaction to be set aside as an undervalue transaction, the liquidator or equivalent must demonstrate that: #the consideration received by the company in the transaction, in money or money's worth is significantly less than the value, in money or money's worth, provided by the company; #the transaction was entered into during the "vulnerability period"; and #at the time of the transaction, the company was unable to pay its debts as they fell due, or became unable to pay its debts as they fell due as a result of the transaction. The vulnerability period is the period of time immediately prior to the company going into bankruptcy. The length of the vulnerability period varies between countries, and some countries apply different vulnerability periods in different circumstances. The effect of a successful application to have a transaction declared as an undervalue transaction varies. Inevitably the other party to the transaction who received the benefit has to return the benefit (or account for it) it to the liquidator. In some countries the assets are treated in the normal way, and may be taken by any
secured creditor A secured creditor is a creditor with the benefit of a security interest over some or all of the assets of the debtor. In the event of the bankruptcy of the debtor, the secured creditor can enforce security against the assets of the debtor and av ...
s who have a
security interest In finance, a security interest is a legal right granted by a debtor to a creditor over the debtor's property (usually referred to as the '' collateral'') which enables the creditor to have recourse to the property if the debtor defaults in mak ...
which catches the assets (characteristically, a
floating charge A floating charge is a security interest over a fund of changing assets of a company or other legal person. Unlike a fixed charge, which is created over ascertained and definite property, a floating charge is created over property of an ambulator ...
). However, some countries have "ring-fenced" recoveries of unfair preferences so that they are made available to the pool of assets for
unsecured creditor An unsecured creditor is a creditor other than a preferential creditor that does not have the benefit of any security interests in the assets of the debtor. In the event of the bankruptcy of the debtor, the unsecured creditors usually obtain a '' ...
s. Many jurisdictions which have prohibitions on undervalue transactions also provide for an exception in the case of transactions entered into in the ordinary course of business where the
directors Director may refer to: Literature * ''Director'' (magazine), a British magazine * ''The Director'' (novel), a 1971 novel by Henry Denker * ''The Director'' (play), a 2000 play by Nancy Hasty Music * Director (band), an Irish rock band * ''Di ...
are of a view that it is for the benefit of the company, and such transactions are usually either validated or presumed to be validated.


In individual jurisdictions


United Kingdom

A transaction at an undervalue in U.K. insolvency law can only be pursued by an
administrator Administrator or admin may refer to: Job roles Computing and internet * Database administrator, a person who is responsible for the environmental aspects of a database * Forum administrator, one who oversees discussions on an Internet forum * N ...
or liquidator of the company. The transaction must have been a gift, or a transaction where the company received consideration of money or money's worth which was significantly lower in value than the asset was worth. In '' Re MC Bacon Ltd (No 1)'', the court held that the granting of
security Security is protection from, or resilience against, potential harm (or other unwanted coercive change) caused by others, by restraining the freedom of others to act. Beneficiaries (technically referents) of security may be of persons and social ...
could not be considered an undervalue transaction as it does not deplete or diminish the value of the assets of the company. In '' Phillips v Brewin Dolphin Bell Lawrie','' the court held that it may be appropriate to consider the details of a series of linked transactions when determining whether the transaction was for an undervalue. In order for a transaction at an undervalue to be proved, the test in section 240 of the
Insolvency Act 1986 The Insolvency Act 1986c 45 is an Act of the Parliament of the United Kingdom that provides the legal platform for all matters relating to personal and corporate insolvency in the UK. History The Insolvency Act 1986 followed the publication and ...
must be satisfied. The transaction must have occurred within the relevant period of two years. The period is calculated by reference to the period of time immediately preceding the onset of
liquidation Liquidation is the process in accounting by which a company is brought to an end in Canada, United Kingdom, United States, Ireland, Australia, New Zealand, Italy, and many other countries. The assets and property of the company are redist ...
. There is also a requirement for the company to have been insolvent when the transaction was entered into, or for the company to have become insolvent as a result of the transaction. This is presumed for a 'connected person', which may be rebutted, but must be proven by the liquidator or administrator in all other cases. There is a defence which the recipient of the transaction can rely on under section 238(5) of the Insolvency Act 1986 which applies where a transaction was entered in
good faith In human interactions, good faith ( la, bona fides) is a sincere intention to be fair, open, and honest, regardless of the outcome of the interaction. Some Latin phrases have lost their literal meaning over centuries, but that is not the case ...
, for the purpose of carrying on the business, and there were reasonable grounds when it was entered to believe that it would benefit the company. If it is proven that there was a transaction at an undervalue, then the transaction is
voidable Voidable, in law, is a transaction or action that is valid but may be annulled by one of the parties to the transaction. Voidable is usually used in distinction to void ''ab initio'' (or void from the outset) and unenforceable. Definition The a ...
at the court's discretion and there are a number of possible
court orders A court order is an official proclamation by a judge (or panel of judges) that defines the legal relationships between the parties to a hearing, a trial, an appeal or other court proceedings. Such ruling requires or authorizes the carrying out ...
. These are listed in section 241 of the Insolvency Act 1986 and include returning the property to the company, returning the proceeds of sale to the company, and the discharge of any security.


Australia

An uncommercial transaction in
Australian insolvency law Australian insolvency law regulates the position of companies which are in financial distress and are unable to pay or provide for all of their debts or other obligations, and matters ancillary to and arising from financial distress. The law in ...
occurs if it could be expected that a
reasonable person In law, a reasonable person, reasonable man, or the man on the Clapham omnibus, is a hypothetical person of legal fiction crafted by the courts and communicated through case law and jury instructions. Strictly according to the fiction, it is ...
in the same circumstances as the company would not have entered into the transaction with regard to the benefits and detriments to the company, the benefits to any other party to the transaction, and any other relevant matter. Section 588FB(2) of the
Corporations Act 2001 The ''Corporations Act 2001'' (Cth) is an Act of the Parliament of Australia, which sets out the laws dealing with business entities in the Commonwealth of Australia. The company is the Act's primary focus, but other entities, such as partners ...
provides that there is no requirement for a creditor of the company to be party to the transaction and that there can still be an uncommercial transaction where it was the result of an Australian court order or agency direction. The vulnerability period for an uncommercial transaction is two years, or four years where there is a 'connected person'.


Canada

A transfer at undervalue occurs in Canadian insolvency law where there is a transfer of property or the provision of services for which the
debtor A debtor or debitor is a legal entity (legal person) that owes a debt to another entity. The entity may be an individual, a firm, a government, a company or other legal person. The counterparty is called a creditor. When the counterpart of this ...
company gives a consideration of nil or conspicuously less than
fair market value The fair market value of property is the price at which it would change hands between a willing and informed buyer and seller. The term is used throughout the Internal Revenue Code, as well as in bankruptcy laws, in many state laws, and by several ...
. A
trustee Trustee (or the holding of a trusteeship) is a legal term which, in its broadest sense, is a synonym for anyone in a position of trust and so can refer to any individual who holds property, authority, or a position of trust or responsibility to ...
must bring an application under section 96 of the
Bankruptcy and Insolvency Act The ''Bankruptcy and Insolvency Act'' (BIA; french: Loi sur la faillite et l'insolvabilité) (the ''Act'') is one of the statutes that regulates the law on bankruptcy and insolvency in Canada. It governs bankruptcies, consumer and commercial pro ...
for the court to declare a transaction
void Void may refer to: Science, engineering, and technology * Void (astronomy), the spaces between galaxy filaments that contain no galaxies * Void (composites), a pore that remains unoccupied in a composite material * Void, synonym for vacuum, a s ...
. The trustee has different legal requirements where the party was or was not dealing at arm's length with the debtor. Where the parties were at arm's length, the trustee must prove that the transaction was at an undervalue, it occurred during the one year before the initial bankruptcy event, the debtor company was insolvent at the time of the transaction or was made insolvent because of it, and the company intended to "defraud, defeat or delay" a creditor. Where the parties were not dealing at arm's length, then the trustee must prove that the transaction was at an undervalue and that either the transfer occurred during the one year before the initial bankruptcy event or the bankruptcy occurred in the five years before the initial bankruptcy event and the company was insolvent at the time of the transaction or was made insolvent because of it and the company intended to "defraud, defeat or delay" a creditor.


South Africa

A disposition without value in South African insolvency law can be set aside by the court under section 26 of the Insolvency Act 1936. Insolvency Act 24 of 1936
s 26. This occurs where the
debtor A debtor or debitor is a legal entity (legal person) that owes a debt to another entity. The entity may be an individual, a firm, a government, a company or other legal person. The counterparty is called a creditor. When the counterpart of this ...
made such a disposition more than two years before the sequestration of his estate and it can be proven that immediately after the disposition, debtor's liabilities exceeded his
assets In financial accounting, an asset is any resource owned or controlled by a business or an economic entity. It is anything (tangible or intangible) that can be used to produce positive economic value. Assets represent value of ownership that can b ...
, or the disposition occurred within two years of the sequestration of the estate and the person who received the disposition cannot prove that immediately after the transaction, the assets of the debtor exceeded his liabilities.


See also

*
Unfair preference An unfair preference (or "voidable preference") is a legal term arising in bankruptcy law where a person or company transfers assets or pays a debt to a creditor shortly before going into bankruptcy, that payment or transfer can be set aside on t ...
* Voidable floating charge


Footnotes

{{Reflist Bankruptcy Business law Insolvency